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TMI Blog2016 (2) TMI 415X X X X Extracts X X X X X X X X Extracts X X X X ..... international treaty. Therefore, mere amendment to Section 9(1)(vi) cannot result in a change. It is imperative that such amendment is brought about in the agreement as well. Any attempt short of this, even if it is evidence of the State’s discomfort at letting data broadcast revenues slip by, will be insufficient to persuade this Court to hold that such amendments are applicable to the DTAAs. Consequently, since we have held that the Finance Act, 2012 will not affect Article 12 of the DTAAs, it would follow that the first determinative interpretation given to the word “royalty” in Asia Satellite supra note 1, when the definitions were in fact pari materia (in the absence of any contouring explanations), will continue to hold the field for the purpose of assessment years preceding the Finance Act, 2012 and in all cases which involve a Double Tax Avoidance Agreement, unless the said DTAAs are amended jointly by both parties to incorporate income from data transmission services as partaking of the nature of royalty, or amend the definition in a manner so that such income automatically becomes royalty. It is reiterated that the Court has not returned a finding on whether the amendm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... IT v. Shin Satellite 2007-08 30.09.2010 Indo Thai DTAA ITA 244/2014 DIT v. Shin Satellite 2009-10 09.04.2012 Indo Thai DTAA ITA 473/2012 DIT v. New Skies 2008-09 17.08.2011 Indo Netherlands DTAA ITA 474/2012 DIT v. New Skies 2006-07 17.08.2011 Indo Netherlands DTAA Brief Facts: Pre-Finance Act 2012 4. The assessee in ITA 500/12 and 244/14, M/s Shin Satellite Public Co. Ltd. (hereafter Shin ), is a company incorporated in Thailand, engaged in the business of providing digital broadcasting services as well as consultancy services to its customers who consist of both residents of India and non-residents. Shin provides these services through its satellite Thaicom 3, whose footprint covers a large geographical area, including India. In AY 2007-08 and 2009-10, the assessee filed NIL returns. The AO reviewed the return un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... agnetic) signals into an electrical form suitable for amplification in the Low Noise Receiver (LNR). The signals are modified within the LNR in frequency to correspond to the relay range and then amplified again before the individual filters. A microwave type boosts the power of the signal within each transponder to a high power level such as 100 Watts before applying it to the transmitting antenna. The latter transforms the electrical signal from all the transponders into an equivalent electromagnetic form for radiation into the footprint where the receiving terminals are located. 8. This is the service the assessees provide to their customers, the income from which is sought to be taxed under Section 9(1)(vi) of the Act. This section has however, since the time of the first assessment order in this case, undergone an amendment. Section 9(1)(vi) as it existed then, and on the basis of which the Assessment Orders were made reads as follows: Income deemed to accrue or arise in India. 9. (1) The following incomes shall be deemed to accrue or arise in India (vi) income by way of royalty payable by- (a) the Government ; or (b) a person who is a resident, exc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ct of which such income first becomes chargeable to tax under this Act, whichever assessment year is later, the company exercises an option by furnishing a declaration in writing to the Assessing Officer (such option being final for that assessment year and for every subsequent assessment year) that the agreement may be regarded as an agreement made before the 1st day of April, 1976. Explanation 2.-For the purposes of this clause, royalty means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head Capital gains ) for- (i) the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property ; (ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property ; (iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property ; (iv) the imparting of any information concerning technical, indust ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld be use and process . First, as regards the word process , the AO held that the series of acts undertaken within the transponder are done to achieve a particular result, i.e. to make the signals viewable, and this clearly qualifies as a process , the consideration for the use of which would amount to royalty. Noting the nature of the services provided by the assessee, (as recounted above), the AO observed that the agreements signed by it with its various customers showed that the agreements were not for the purpose of satellite hiring, but for the purpose of providing digital channel services. After enumerating certain clauses of the agreement, the AO held that it was evident that the assessee was providing complete digital broadcasting services right from receiving the signals from its customers, to encoding the signals, feeding them into the uplinking system and to then transmitting these to the required space segment and that this constituted the process required to bring the income under the fold of Section 9(1)(vi). He further distinguished the case from the the decision rendered in PanAmSat supra note 2 . In that case, the only activity carried out was the processi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s also held that similar to sub clause (iva) of Explanation 2, the receipt would also be royalty under Article 12 for the use of, or right to use industrial, commercial or scientific equipment . 12. Second, on the question of whether the royalty received by a non-resident Telecasting Company is taxable, the AO held that the same would be taxable only if it had been paid in respect of services utilized for the purposes of making or earning any income from any source in India. The source, the AO argues, are the Indian audience, for whom the programs are created, and thus India becomes the territory of commercial exploitation by these non-resident Telecasting Companies. Placing reliance on an AAR Ruling in Steffen, Robertson and Kirsten Consulting Engineers and Scientists v. CIT [1998] 230 ITR 206 AAR, the AO stated that it had been held that for determining the place of accrual the important consideration is not the place where the services for which the payment are being made, but the place where the services are actually utilized. As a result, the AO held that the receipts from non resident and non-resident customers were taxable as royalty both under the Act as well as the Ind ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... owed the appeal of the assessee. It would be wise to remember that the judgment in Asia Satellite Supra note 1 was solely in the context of Section 9(1)(vi) of the Act, there being no Double Tax avoidance Agreement in that factual matrix. 16. ITA 244/2014, also in the case of assessee Shin, was preferred by the Revenue against the order of the ITAT applying the judgment of Asia Satellite supra note 1 . Here too the ITAT had overturned the Assessment Order dated 09.04.2012. The order was similar if not wholly identical to the one passed in ITA 500/2012. 17. ITA 473/2012 and 474/2012 are filed by the Revenue against the order of the ITAT overturning common assessment order dated 17.08.2011, in the case of assessee New Skies. Here the return of income for the AY 2008-09 was filed on 10.10.2008 declaring NIL income. For the same reasons as above, the AO held the income taxable under Section 9(1)(vi). However, in addition to this, the AO also went into the difference between the definition of royalty under Section 9(1)(vi) and the treaty, in that case, the Indo-Netherlands DTAA. Here, the definition of royalty under Article 12(4) is as follows: The terms royalties as used i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lanations, clarificatory as they claim they are, have attempted to undo the implications of Asia Satellite. supra note 1 Explanations 4, 5, and 6 are reproduced below: Explanation 4.-For the removal of doubts, it is hereby clarified that the transfer of all or any rights in respect of any right, property or information includes and has always included transfer of all or any right for use or right to use a computer software (including granting of a licence) irrespective of the medium through which such right is transferred. Explanation 5.-For the removal of doubts, it is hereby clarified that the royalty includes and has always included consideration in respect of any right, property or information, whether or not- (a) the possession or control of such right, property or information is with the payer; (b) such right, property or information is used directly by the payer; (c) the location of such right, property or information is in India. Explanation 6.-For the removal of doubts, it is hereby clarified that the expression process includes and shall be deemed to have always included transmission by satellite (including up- linking, amplification, conve ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y. Counsel relied on the judgment of the Bombay High Court in Commissioner of Income Tax v. Seimens Aktiongessellschaft [2009] 310 ITR 320 and the Andhra Pradesh High Court in M/s Sanofi Pasteur Holding SA v. Department of Revenue. (2013) 354 ITR 316 (AP) 22. Learned counsel, most importantly stressed upon the decision of this Court, in Director of Income Tax v Nokia Networks 2013 (358) ITR 259 which had dealt with a similar issue, with respect to applicability of the amended Section 9 (1) (vi) in the light of insertion of the Explanations, the context being the efficacy of the interpretation given to the statute vis- -vis a double taxation avoidance treaty. In that case, this Court had rejected that any amendment could change the situation and render the service or activity taxable. 23. Taking the argument to its logical end, counsel further argued that it is not possible for one nation to, by way of a unilateral amendment to tax income which otherwise was not subject to tax under the treaty. In other words, argued counsel, the rule of referential incorporation cannot be applied in dealing with a DTAA between two Sovereign Nations. Though it is open to a Sovereign Legislatur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... from changes made by the Finance Act, 2012, a long and winding provision, subject to several explanations and provisos. It will therefore be prudent to undertake a systematic approach to it, whereby each stage of the section is examined. The opening words of Section 9; the following incomes shall be deemed to accrue or arise in India indicate at the outset that the provision is a deeming one whereby, income otherwise not accruing in India, will be deemed to have accrued in certain cases. Until 1922, various provisions enumerated cases under which income accruing to an assessee abroad was deemed to accrue in India. The 1961 Act collects these provisions and covers them under the ambit of Section 9. One of such deeming provisions is Section 9(1)(vi), which states that income by way of royalty, shall be deemed to have accrued in India. For income of such nature to be taxable under the Act, two aspects must be examined, first, whether the income partakes the character of royalty as defined in Explanation 2, and second, depending on who it is payable by, whether the conditions governing payment by such person have been met. As to the second aspect, Section 9(1)(vi) begins with the fo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r scientific equipment but not including the amounts referred to in section 44BB 28. The two clauses as applicable to data transmission services have been the subject of debate in courts as well as business circles. The debate was finally settled by the judgment delivered in Asia Satellite supra note 1 . In Asia Satellite supra note 1 this Court held that income from data transmission services would not qualify as royalty in order for it to be taxable under the Act. The Court first recognized that the definition of royalty in the section is with respect to permission granted to use the right in respect of the patent, invention, process, etc., all essentially forms of intellectual property. This permission restricts itself merely to the letting of the licensed asset. The permission does not go so far as to allow alienation of the asset itself. That being said, it is not so restricted as to qualify as a case where the licensor uses the asset himself, albeit for the purposes of his customers. The Court took note of the features of the agreements between the assessee in that case, which was a foreign company, incorporated in Hong Kong, and its customers, which were TV channels. Th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of this judgment, primarily that the function performed by the transponder could not be categorized as a process and that even in the event it could be, there was no use of this process since there was no control exercised by the customers, is no longer good law in light of the inclusion of Explanations 4-6 by the Finance Act, 2012. In other words the Revenue contends that a mere reading of Explanation 4-6 will go to show that they are clarificatory and are therefore automatically retrospective. By this reason, as clarificatory amendments do, these explanations relate back to the time when the main provision of Section 9(1)(vi) first came into force. By logical extension, the judgment in Asia Satellite supra note 1 was based on a misinterpretation of the section and thus no longer holds the field or corresponds to the correct interpretation of the definition of royalty. 30. Undoubtedly, the legislature is competent to amend a provision that operates retrospectively or prospectively. Nonetheless, when disputes as to their applicability arise in court, it is the actual substance of the amendment that determines its ultimate operation and not the bare language in which such am ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o carried them to influence the meaning of royalty under Article 12. Notably, in both cases, the clarificatory nature of the amendment was not questioned, but was instead applied squarely to assessment years predating the amendment. The crucial difference between the judgments however lies in the application of the amendments to the DTAA. While TV Today supra note 22 recognizes that the question will have to be decided and the submission argued, Verizon supra note 23 cites no reason for the extension of the amendments to the DTAA. 32. Explanations 4-6 are designed as clarificatory amendments. Unarguably they have all the apparent characteristics of one. The words for the removal of doubts, it is hereby clarified includes and has always included qualify the interpretation in Explanation 5. In Explanation 6, the same words have been modified and they state includes and has always deemed to have always included . This is the standard language used to communicate an intended retrospective effect. 33. There is a general presumption against retrospectivity of an amendment. This is the principle of lex prospicit non respicit which implies that unless explicitly stated, a piece of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... retation of law since the time it was first drafted or brought into force. However, in order for such clarificatory amendments to be sustained as retrospective, they must answer to this description. 36. A clarificatory amendment presumes the existence of a provision the language of which is obscure, ambiguous, may have made an obvious omission, or is capable of more than one meaning. In such case, a subsequent provision dealing with the same subject may throw light upon it. Yet, it is not every time that the legislature characterizes an amendment as retrospective that the Court will give such effect to it. This is not in derogation of the express words of the law in question, (which as a matter of course must be the first to be given effect to), but because the law which was intended to be given retrospective effect to as a clarificatory amendment, is in its true nature one that expands the scope of the section it seeks to clarify, and resultantly introduces new principles, upon which liabilities might arise. Such amendments though framed as clarificatory, are in fact transformative substantive amendments, and incapable of being given retrospective effect. In R. Rajagopal Reddy ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l go to show that the amendment was no more than an exercise in undoing an interpretation of the court which removed income from data transmission services from taxability under Section 9(1)(vi). It would also be difficult, if not impossible to argue, that inclusion of a certain specific category of services or payments within the ambit of a definition alludes not to an attempt to illuminate or clarify a perceived ambiguity or obscurity as to interpretation of the definition itself, but towards enlarging its scope. Predicated upon this, the retrospectivity of the amendment could well be a contentious issue. Be that as it may, this Court is disinclined to conclusively determine or record a finding as to whether the amendment to 9(1)(vi) is indeed merely clarificatory as the Revenue suggests it is, or prospective, given what its nature may truly be. The issue of taxability of the income of the assessees in this case may be resolved without redressal of the above question purely because the assessee has not pressed this line of arguments before the court and has instead stated that even if it were to be assumed that the contention of the Revenue is correct, the ultimate taxability of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eliance on the definition in the OECD Model Convention. Similar cases, before the Tax Tribunals through the nation, even while disagreeing on the ultimate import of the definition of the word royalty in the context of data transmission services, systematically and without exception, have treated the two definitions as pari materia. This Court cannot take a different view, nor is inclined to disagree with this approach for it is imperative that definitions that are similarly worded be interpreted similarly in order to avoid incongruity between the two. This is, of course, unless law mandates that they be treated differently. The Finance Act of 2012 has now, as observed earlier, introduced Explanations 4, 5, and 6 to the Section 9(1)(vi). The question is therefore, whether in an attempt to interpret the two definitions uniformly, i.e. the domestic definition and the treaty definition, the amendments will have to be read into the treaty as well. In essence, will the interpretation given to the DTAAs fluctuate with successive Finance Act amendments, whether retrospective or prospective? The Revenue argues that it must, while the Assessees argue to the contrary. This Court is inclined t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d investment between treaty partners is generally in balance. Where this is not the case, the benefits of the treaty may be weighted more in favour of one treaty partner than the other, even though the provisions of the treaty are expressed in reciprocal terms. This has been identified as occurring in relation to tax treaties between developed and developing countries, where the flow of trade and investment is largely one way. Because treaty negotiations are largely a bargaining process with each side seeking concessions from the other, the final agreement will often represent a number of compromises, and it may be uncertain as to whether a full and sufficient quid pro quo is obtained by both sides. 43. The Vienna Convention on the Law of Treaties, 1969 ( VCLT ) is universally accepted as authoritatively laying down the principles governing the law of treaties. Article 39 therein states the general rule regarding the amendment of treaties and provides that a treaty may be amended by agreement between the parties. The rules laid down in Part II of the VCLT apply to such an agreement except insofar as the treaty may otherwise provide. This provision therefore clearly states ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ily supply the import to be given to the word in question. In the former case however, the words in the treaty will be controlled by the definitions of those words in the treaty if they are so provided. 46. Though this has been the general rule, much discussion has also taken place on whether an interpretation given to a treaty alters with a transformation in, or amendments in, domestic law of one of the State parties. At any given point, does a reference to the treaty point to the law of the Contracting States at the time the treaty was concluded, or relate to the law of the States as existing at the time of the reference to the treaty? The former is the static approach while the latter is called the ambulatory approach. One opportunity for a State to ease its obligations under a tax convention comes from the ambulatory reference to domestic law. States seeking to furtively dodge the limitations that such treaties impose, sometimes, resort to amending their domestic laws, all the while under the protection of the theory of ambulatory reference. It thereby allows itself an adjustment to broaden the scope of circumstances under which it is allowed to tax under a treaty. A con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n article I(2). Considering the express language of article I(2) it is not possible to accept the broad proposition urged on behalf of the assessee that the law would be the law as applicable or as define when the Double Tax Avoidance Agreement was entered into. 49. It is essential to note the context in which this judgment was delivered. There, the Court was confronted with a situation where the word royalty was not defined in the German DTAA. Following from our previous discussion on the bifurcation of terms within the treaty, in situations where words remain undefined, assistance is to be drawn from the definition and import of the words as they exist in the domestic laws in force . It was in this context that the Bombay High Court held that they were unable to accept the assesse s contention that the law applicable would be the law as it existed at the time the Double Tax Avoidance Agreement was entered into. This is the context in which the ambulatory approach to tax treaty interpretation was not rejected. The situation before this Court however is materially different as there is in fact a definition of the word royalty under Article 12 of both DTAA, thus dispensing wit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mestic law and the manner of their operation on parallel treaties. The Court delivered its judgment in the context of the very amendments that are in question today; the Explanations to Section 9(1)(vi) vis a vis the interpretation of a Double Tax Avoidance Agreement. This Court rejected that any amendment could change the situation and render the service or activity taxable, in the following observations: He, thus submitted that the question of copyrighted article or actual copyright does not arise in the context of software both in the DTAA and in the Income Tax Act since the right to use simpliciter of a software program itself is a part of the copyright in the software irrespective of whether or not a further right to make copies is granted. The decision of the Delhi Bench of the ITAT has dealt with this aspect in its judgment in Gracemac Co. Vs. ADIT 134 TTJ (Delhi) 257 pointing out that even software bought off the shelf, does not constitute a copyrighted article as sought to be made out by the Special Bench of the ITAT in the present case. However, the above argument misses the vital point namely the assessee has opted to be governed by the treaty and the language o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the treaty, especially by employing domestic law. The principle is reciprocal. Every treaty entered into be the Indian State, unless self-executory, becomes operative within the State once Parliament passes a law to such effect, which governs the relationship between the treaty terms and the other laws of the State. It then becomes part of the general conspectus of domestic law. Now, if an amendment were to be effected to the terms of such treaty, unless the existing operationalizing domestic law states that such amendments are to become automatically applicable, Parliament will have to by either a separate law, or through an amendment to the original law, make the amendment effective. Similarly, amendments to domestic law cannot be read into treaty provisions without amending the treaty itself. 53. Finally, States are expected to fulfill their obligations under a treaty in good faith. This includes the obligation to not defeat the purpose and object of the treaty. These obligations are rooted in customary international law, codified by the VCLT, especially Article 26 (binding nature of treaties and the obligation to perform them in good faith); Article 27 (Internal law and obse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... supplied) Section 9(1)(vi), Explanation 2, Income Tax Act, 1961 (iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property; (emphasis supplied) 55. The slight but apparently vital difference between the definitions under the DTAA and the domestic definition is the presence of a comma following the word process in the former. In the initial determinations before various ITATs across the country, much discussion took place on the implications of the presence or absence of the comma . A lot has been said about the relevance or otherwise of punctuation in the context of statutory construction. In spoken English, it would be unwise to argue against the importance of punctuation, where the placement of commas is notorious for diametrically opposite implications. However in the realm of statutory interpretation, courts are circumspect in allowing punctuation to dictate the meaning of provisions. Judge Caldwell once famously said The words control the punctuation marks, and not the punctuation marks the words. Holmes v. Pheonix Insurance Co. 98 F 240 (1899 . It has been held in CGT v. Budur 103 ITR 189 and Hindustan Co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... comma or a period gives rise to diametrically opposite consequences or large variations in taxing powers, as is in the present case, then the assumption must be that it was punctuated with a particular end in mind. The test therefore is not to see if it makes grammatical sense but to see if it takes on any legal consequences . 58. Nevertheless, whether or not punctuation plays an important part in statute interpretation, the construction Parliament gives to such punctuation, or in this case, the irrelevancy that it imputes to it, cannot be carried over to an international instrument where such comma may or may not have been evidence of a deliberate inclusion to influence the reading of the section. There is sufficient evidence for us to conclude that the process referred to in Article 12 must in fact be a secret process and was always meant to be such. In any event, the precincts of Indian law may not dictate such conclusion. That conclusion must be the result of an interpretation of the words employed in the law and the treatises, and discussions that are applicable and specially formulated for the purpose of that definition. The following extract from Asia Satellite supra n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s to the transponder that has been assigned to it. In such cases, the payments made by the customers would therefore be in the nature of payments for services, to which Article 7 applies, rather than payments for the use, or right to use, ICS equipment. A different, but much less frequent, transaction would be where the owner of the satellite leases it to another party so that the latter may operate it and either use it for its own purposes or offer its data transmission capacity to third parties. In such a case, the payment made by the satellite operator to the satellite owner could well be considered as a payment for the leasing of industrial, commercial or scientific equipment. Similar considerations apply to payments made to lease or purchase the capacity of cables for the transmission of electrical power or communities (e.g. through a contract granting an indefeasible right of use of such capacity) or pipelines (e.g. for the transportation of gas or oil). 75. Much reliance was placed upon the commentary written by Klaus Vogel on Double Taxation Conventions (3rd Edition)'. It is recorded therein: The use of a satellite is a service, not a rental (thus correctly, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not otherwise. A change in executive position cannot bring about a unilateral legislative amendment into a treaty concluded between two sovereign states. It is fallacious to assume that any change made to domestic law to rectify a situation of mistaken interpretation can spontaneously further their case in an international treaty. Therefore, mere amendment to Section 9(1)(vi) cannot result in a change. It is imperative that such amendment is brought about in the agreement as well. Any attempt short of this, even if it is evidence of the State s discomfort at letting data broadcast revenues slip by, will be insufficient to persuade this Court to hold that such amendments are applicable to the DTAAs. 60. Consequently, since we have held that the Finance Act, 2012 will not affect Article 12 of the DTAAs, it would follow that the first determinative interpretation given to the word royalty in Asia Satellite supra note 1 , when the definitions were in fact pari materia (in the absence of any contouring explanations), will continue to hold the field for the purpose of assessment years preceding the Finance Act, 2012 and in all cases which involve a Double Tax Avoidance Agreement, un ..... X X X X Extracts X X X X X X X X Extracts X X X X
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