Salary paid abroad to non-residents and transfer to a wholly owned subsidiary fall outside Indian tax charge under statutory exemptions.

Section 40(a)(iii) applies only where salary is chargeable to tax in India; salary paid outside India to non-resident employees for services rendered outside India is not taxable in India, so no tax deduction at source arises under section 192 and the disallowance is unsustainable. A transfer of assets and capital work in progress by a company to its 100% Indian subsidiary falls within section 47(iv), so the resulting capital gain is outside capital gains tax and the statutory consequence must be applied consistently to the transfer.

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Issues: (i) Whether salary paid outside India to non-resident employees for services rendered outside India was chargeable to tax in India so as to attract disallowance under section 40(a)(iii) of the Income-tax Act, 1961. (ii) Whether capital gain arising on transfer of assets and capital work in progress to a wholly owned subsidiary was chargeable to tax in view of section 47(iv) of the Income-tax Act, 1961.

Issue (i): Whether salary paid outside India to non-resident employees for services rendered outside India was chargeable to tax in India so as to attract disallowance under section 40(a)(iii) of the Income-tax Act, 1961.

Analysis: Section 40(a)(iii) applies only where the payment is chargeable under the head 'Salaries'. Under section 192, deduction at source arises only in respect of income chargeable under the head 'Salaries'. Section 9(1)(ii) deems salary income to accrue or arise in India only when it is earned in India, that is, when services are rendered in India. The employees in question rendered services in the Netherlands and the salary was paid to non-residents for such services outside India. On that footing, the salary was not chargeable to tax in India and no tax was deductible at source.

Conclusion: The disallowance under section 40(a)(iii) was not sustainable and the deletion made by the first appellate authority was upheld.

Issue (ii): Whether capital gain arising on transfer of assets and capital work in progress to a wholly owned subsidiary was chargeable to tax in view of section 47(iv) of the Income-tax Act, 1961.

Analysis: The transfer was by a company to its 100% Indian subsidiary and the conditions of section 47(iv) were satisfied. Once the transfer fell within that exemption provision, the capital gain arising on transfer of capital work in progress could not be taxed. Correspondingly, the loss on transfer of business assets was also not allowable as a deduction. The Assessing Officer's approach of taxing only the gain while ignoring the statutory consequence of section 47(iv) was held to be contrary to law.

Conclusion: The addition of short-term capital gain was correctly deleted.

Final Conclusion: The Revenue's appeals failed on both substantive issues, and the order granting relief to the assessees was sustained in full.

Ratio Decidendi: Disallowance under section 40(a)(iii) is permissible only when the salary payment is chargeable to tax in India, and section 47(iv) excludes transfers by a company to its wholly owned Indian subsidiary from capital gains taxation.

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