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TMI Blog2025 (1) TMI 1274X X X X Extracts X X X X X X X X Extracts X X X X ..... ofits outside India. The transfer pricing provisions need to be interpreted keeping in mind the above objective of fair and equitable tax allocation. In the instant case, the PO has undertaken onshore services on behalf of HO and incurred substantial losses in executing such services. Whether unrelated party would have taken up the obligation of rendering onshore services, which at the threshold itself result in loss? - As per section 92B(1), to qualify as international transaction, atleast one party should be non- resident. The residential status of the branch is that of its head office. In case of Indian enterprise and its foreign PE, both are residents in India. Thus, the condition that at least one party should be non-resident does not get fulfilled in the case of Indian enterprise and its foreign branch. However, in the case of foreign enterprise and its Indian branch, both parties are non-residents. Thus, the condition of section 92B(1) of the Act that atleast one party should be non- resident gets satisfied in the case of foreign enterprise and its Indian branch. Whether PE a Separate Enterprise? - PE in India of a foreign enterprise, Article 7(2) provides that profits, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hin the meaning of section 92A is discussed below. Associated Enterprise - AR submitted that the TPO has erred in concluding that PO and HO are 'associated enterprise' merely by evaluating section 92A(1) - Transaction between an enterprise and an unrelated person should have been influenced by the associated enterprise of the first party having an arrangement or agreement with the unrelated party. The associated enterprise and the unrelated person can be said to have exercised influence over the transaction in question, if the terms of such transaction would have been different but for such influence. Therefore, where the associated enterprise and the unrelated person have not been able to influence the specific transaction between an enterprise and the unrelated person, section 92B(2) of the Act does not have any application. The influence to attract section 92B(2) of the Act can take two forms. Firstly, it can be in the form of a prior agreement in relation to the transaction in question (between the associated enterprise and the unrelated person). Secondly, the terms of the transaction have to be in substance determined by the associate enterprise and the unrelated part ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... purpose of section 92B, and accordingly can be subjected to the 'arm's length price' adjustment?" 3. Brief facts of the case are as follows: 4. The assessee is a Project Office ("PO") in India of TBEA Shenyang Transformer Group Company Ltd., ("TBEA"), a company which is incorporated in China and is a tax resident of China. Thus, PO of TBEA constitutes Permanent Establishment in India. Power Grid Corporation of India Ltd., ("PGCIL") awarded a contract to TBEA to build sub-stations in India, comprising of off-shore supply, on-shore supply, and on-shore Services, governed by separate agreements. Under the offshore supply agreement, the TBEA supplied equipment directly to PGCIL from outside India, invoiced and collected payments outside India. Under the onshore services agreement TBEA was to provide certain onshore services in the nature of inland transportation and civil work services to PGCIL within India. In order to provide these services, pursuant to the agreement with PGCIL, the TBEA set up a Project Office ("PO") (i.e., assessee) in India to provide the onshore services. The onshore services were accordingly provided by the TBEA through its PO/PE including sub-contractin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... international transaction shall be computed having regard to the arm's length price. Section 92A of the Act defines who is Associated Enterprise. Section 92B(1) of the Act defines the international transaction and section 92B(2) of the Act defines the deemed international transaction. Section 92C of the Act, dealing with computation of ALP, provides through sub-section (1), that the ALP shall be determined by any of the following methods, being the most appropriate method, having regard to the nature of transaction or class of transaction or class of associated persons or functions performed by such persons or such other relevant factors as the Board may prescribe. Five specific methods have been set out, namely, (a) comparable uncontrolled price method; (b) resale price method; (c) cost plus method; (d) profit split method; (e) transactional net margin method. Thereafter, another method is given in clause (f), namely, such other method as may be prescribed by the Board, which has since been prescribed in rule 10BA as 'Other method'. Sub-section (2) of section 92C mandates that: 'The most appropriate method referred to in sub-section (1) shall be applied, for deter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ulations is to prevent shifting of profits outside India. 7.4 The transfer pricing provisions need to be interpreted keeping in mind the above objective of fair and equitable tax allocation. In the instant case, the PO has undertaken onshore services on behalf of HO and incurred substantial losses in executing such services. The crux of the matter is whether unrelated party would have taken up the obligation of rendering onshore services, which at the threshold itself result in loss. 8. Now let us discuss the conflict of decision of the ITAT which led to the constitution of this Special Bench. Conflict in Decisions 8.1 In the reference order to Special Bench under section 255(3) of the Act, it has been stated that there is conflict in the decisions in the case of Aithent Technologies Pvt Ltd vs DCIT reported in [(2015) 155 ITD 266 (Del)] and Fujifilm Corporation India reported in (2018) 193 TTJ 716 (Del) and hence necessary to refer the matter to special bench. Though the reference order under section 255(3) of the Act refers to only one decision in the case of Aithent Technologies, there are three decisions in the case of Aithent Technologies on the same issue. These decision ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... neral enterprise is an Indian entity and the branch office is located outside India." 8.5 The reason for this differentiation for Indian entity and foreign branch was explained by ITAT in the following words: "Thus it is apparent that a resident assessee is liable to tax for its world income, which not only comprises of Indian income but also the income which 'accrues or arises to him outside India during such year'. The final accounts of foreign branch office, including all the items of income, expenses, assets and liabilities are merged with the accounts of head office and the accumulated income so determined is liable to tax in India. When the sale made by the Indian Head office is considered as purchase of the foreign branch office and the figures of head office and branch office are consolidated, any under or over invoicing becomes tax neutral. Even if for a moment, we accept the contention of the Revenue as correct that the head office earned profit from its branch office, then such profit earned would constitute additional cost of the Branch office. On aggregation of the accounts of the` Head office and branch office, such income of the HO would he set off w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing a branch office in India and not vice versa. 8.7 Thus, clear differentiation was made between foreign branch of Indian enterprise and Indian branch of foreign enterprise. This differentiation was made on the fact that in case of foreign branch of Indian enterprise, in the hands of Indian enterprise, the global income is taxable by virtue of section 5(1), which includes the income of foreign branch. However, in case of Indian branch of foreign enterprise, only income of Indian branch is taxable in India by virtue of section 5(2). In such cases, there is a potential to manipulate the profits of Indian branch qua transactions between Head Office and Branch. 8.8 Now, we come to the decision in the case of Fujifilm Corporation, Japan (supra). In this case, the Fujifilm Corporation. was a Japanese enterprise and it had branch Office in India. Vide Additional Ground, the assessee contended that Branch office is just an extension of head office and therefore transfer pricing adjustment cannot be made. Referring to section 92F(iii), the tribunal observed that permanent establishment is also an 'enterprise' for the purposes of the transfer pricing provisions and hence any tran ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .... As per section 92B(1), to qualify as international transaction, atleast one party should be non- resident. The residential status of the branch is that of its head office. In case of Indian enterprise and its foreign PE, both are residents in India. Thus, the condition that at least one party should be non-resident does not get fulfilled in the case of Indian enterprise and its foreign branch. 8.12 However, in the case of foreign enterprise and its Indian branch, both parties are non-residents. Thus, the condition of section 92B(1) of the Act that atleast one party should be non- resident gets satisfied in the case of foreign enterprise and its Indian branch. 9. Now let us come to the contentions raised by AR and DR with reference to the reframed question. Whether PE a Separate Enterprise 9.1 The assessee has contended that Chapter X is not applicable in absence of any income. It is contented that transaction with self or between two branches of the same person cannot trigger any income, which is taxable in India. In this regard, reliance has been placed on the decision of Sir Kikabhai Premchand v CIT (1993) 24 ITR 506 SC, Betts Huett & Co Ltd v CIT (1979) 116 ITR 425 (Ca ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ot;enterprise" means a person (including a permanent establishment of such person) who is, or has been, or is proposed to be, engaged in any activity, relating to the production, storage, supply, distribution, acquisition or control of articles or goods, or know-how, patents. copyrights, trade-marks, licences, franchises or any other business or commercial rights of similar nature, or any data, documentation, drawing or specification relating to any patent, invention, model, design, secret formula or process, of which the other enterprise is the owner or in respect of which the other enterprise has exclusive rights, or the provision of services of any kind, or in carrying out any work in pursuance of a contract, or in investment, or providing loan or in the business of acquiring, holding, underwriting or dealing with shares, debentures or other securities of any other body corporate, whether such activity or business is carried on, directly or through one or more of its units or divisions or subsidiaries, or whether such unit or division or subsidiary is located at the same place where the enterprise is located or at a different place or places; 10.1 The AR has argued that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment." 10.4 In the context of a PE in India of a foreign enterprise, Article 7(2) provides that profits, which the PE might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities shall be attributed to India. So, PE has to be treated as a distinct and separate enterprise. So even if profit attribution has to be done as per treaty, PE has to be treated as a distinct and separate enterprise from the HO. Therefore, even under the tax treaty, the PE is a separate enterprise. 10.5 Since, PE is a separate enterprise from the HO for the purpose of transfer pricing provisions, the decisions relied by the learned AR to contend that one cannot generate income by dealing with self are not applicable in given context. The transfer pricing provisions are applicable to transactions between two enterprises and not be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nt case, the arrangement between the HO and the PE is giving rise to loss in the hands of PE and thus such an arrangement is subject matter of transfer pricing. The PE has undertaken obligation of rendering onshore services to which the HO had agreed. The funds of PE are controlled and managed by HO. If the income or loss in the hands of PE was not due to arrangement with HO, then such a case would not be covered. However, that is not the case here. 11.6 In this context, useful reference can be made to the decision of the Tribunal in the case of Toyota Kirloskar Motors (P.) Ltd. V ALIT [2012] 28 taxmann.com293 (Bangalore). In this case, the assessee contended that no TP addition can be made as there is no amendment to the definition of the term 'income' to include amounts computed under Chapter X of the Act. Rejecting the above contention of the assessee, the ITAT held that TP provisions are special provision to protect the tax base of the country from being eroded and are anti avoidance provision of the Act. The relevant observations of the ITAT are as follows: "8.1 In respect of the ground raised at A-3, the learned counsel for the assessee argued that the authorities ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on published by OECD in 2010 also states that permanent establishment is to be treated as a functionally separate entity. PO and HO have transaction between them which has an impact on 'income'. Both are non-residents and thus satisfy the basic test of section 92B of the Act. Whether they qualify as AEs within the meaning of section 92A is discussed below. 12. Associated Enterprise 12.1 The AR submitted that the Learned TPO has erred in concluding that PO and HO are 'associated enterprise' merely by evaluating section 92A(1) of the Act. It is submitted that in order to constitute 'associated enterprises', requirement of both, sections 92A(1) and 92A(2) of the Act have to be fulfilled. For this purpose, the AR relied on the Memorandum explaining the provisions of Finance Bill 2002. The AR has further relied on the decision in the case of PCIT v. Veer Gems (2017) (77 taxmann.com 127) (Ahd). The AR submitted that tribunal decision is confirmed by Gujarat HC in 407 ITR 639 (Guj HC) and Honourable Supreme Court has dismissed the SLP [reported in 256 Taxmann 298 (SC)]. The AR made detailed submissions that relationship between PO and HO do not fulfil any of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... this issue, it is necessary to appreciate the scheme of section 92A of the Act. The section 92A(1) of the Act sets out the basic rule for treating the enterprises as associated enterprises. The illustrations in which basic rule finds application are set out in section 92A(2) of the Act. 13.3 The basic rule of Section 92A(1) of the Act provides that in order to be treated one enterprise as associated enterprise, in relation to another enterprise, it has to participate, directly or indirectly, or through one or more intermediaries, 'in the management or control or capital of the other enterprise' or when 'one or more persons who participate, directly or indirectly, or through one or more intermediaries, in its management or control or capital, are the same persons who participate, directly or indirectly, or through one or more intermediaries, in the management or control or capital of the other enterprise'. 13.4 As long as an enterprise participates in any of the three aspects of the other enterprise, i.e. (a) management; (b) capital; or (c) control, these enterprises are required to be treated as associated enterprise, as also is the position when common persons pa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the test of holding voting power through shares would not be satisfied as the PE has no independent share capital of its own. So also, the condition of appointment of the Executive director or a majority of the Board of directors may not be satisfied as PE would not have directors of its own. The DR has contended that PE has advanced its entire funds to HO. The quantitative test of clauses (c) and(d) of section 92A(2) of the Act are to be applied in the hands of recipient and not in the hands of lender. What may be satisfied in these kinds of cases is for example clause (g) providing that AE relationship would trigger if manufacture of goods or business carried out by one enterprise using the technology of the other enterprise or any other business or commercial rights of similar nature. Similar clauses (h) or (i) may also be satisfied in a fit case. Thus, if any of clauses of section 92A(2) of the Act are satisfied, the PE and HO may become associated enterprise and transfer pricing provisions will apply to transactions between them. The Division Bench of the ITAT need to analyse if any clauses of section 92A(2) of the Act are satisfied in the instant case based on the facts and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (I), be deemed to be an international transaction entered into between two associated enterprises, if there exists a prior agreement in relation to the relevant transaction between such other person and the associated enterprise, or the terms of the relevant transaction are determined in substance between such other person and the associated enterprise where the enterprise or the associated enterprise or both of them are nonresidents irrespective of whether such other person is a non- resident or not." 14.4 The primary condition for attracting transfer pricing provisions is that there should be an international transaction between two or more associated enterprises. Section 92B(2) of the Act outlines the circumstances under which a transaction between two persons would be deemed to be between associated enterprises. Such deeming fiction is in addition to the one created under section 92A(2) of the Act. The deeming fiction under section 92A(2) of the Act are limited to the parameters of management, control or capital. Section 92B(2) of the Act travels beyond these parameters and is not restricted to parameters of section 92A(2) of the Act. 14.5 There is a difference between inte ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ould be subject to transfer pricing and determination of ALP, only where one of the two Enterprises is a resident of the other contracting state (India). It is submitted that neither the HO nor the PE can be termed as resident and thus transactions between them shall not be subject to transfer pricing considering provisions of Article 9 of DTAA. 16. We have heard the rival contention. It is first important to understand what is the purpose of Article 9 of the DTAA. This can be better understood from the following commentary of OECD on Article 9. Para 2 and Para 4 of OECD Model Tax Convention reads as follows: "2. This paragraph provides that the taxation authorities of a Contracting State may, for the purpose of calculating tax liabilities of associated enterprises, re-write the accounts of the enterprises if, as a result of the special relations between the enterprises, the accounts do not show the true taxable profits arising in that State. It is evidently appropriate that adjustment should be sanctioned in such circumstances. The provisions of this paragraph apply only if special conditions have been made or imposed between the two enterprises. No re-writing of the accounts o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... within the scope of the mutual agreement procedure set up under Article 25. 18. As can be seen from above discussion, the purpose of Article 9 is limited to only confirm that broadly similar rules exist in domestic law. Article 9(1) does not, in itself fulfil any necessary function, as it only formulates rules that may already exist in domestic laws. Article 9(1) does not bar an adjustment of profits under the domestic law even under conditions that differ from those of Article 9(1) but the intention is to have economic double taxation covered by the convention. Assuming that argument of the learned AR that DTAA provisions in Article 9 override the Act is correct, then one needs to attribute profits to the PE as per provisions of Article 7 of the Treaty. Thus, one will also have to apply Article 7(2) of India-China Tax Treaty, which reads as follows: "2. Subject to the provisions of paragraph 3, where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were ..... X X X X Extracts X X X X X X X X Extracts X X X X
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