2011 (12) TMI 91 - HC - Income Tax

Section 142 notice upheld; assessee wins on Section 234B interest and Section 9 accrual/royalty/PE issues

HC held the notice issued under Section 142 was valid, but ruled for the assessee on substantive tax issues: interest under Section 234B was unjustified ... Foreign company - engaged in supply of hardware and software which is used in the business of rendering telecommunication services - validity of notice issued u/s 142 - Double Taxation Avoidance Agreement between Sweden and India (the 'DTAA') - income accrued in India in terms of Section 5 (2)(b) - Permanent Establishment (PE) - Effect of Amendment to section 9 of the Finance Act, 2010​​​​​​​ - viability of charging of interest u/s 234A and 234B on the ground that the revenues were liable for tax deduction at source - Revenue contention, assessee having business connection in India and has a permanent establishment in the form of a dependent agent establishment - income from licensing of software amounted to receipt of royalty - Held that:- Finance Act, 2006, the Legislature has added proviso in Section 142 (i) of the Act. The effect thereof is that an assessment framed pursuant to a notice issued under Section 142 after the end of the assessment year would also be valid. Regarding levy of interest charged u/s 234B it is held that levy of interest was not justified, inasmuch as the assessee had no obligation to pay any advance tax as tax was deductible at source on its income that was chargeable to tax in India. The place of negotiation, the place of signing of agreement, or formal acceptance thereof or overall responsibility of the assessee are irrelevant circumstances. Since the transaction relates to the sale of goods, the relevant factor and determinative factor would be as to where the property in the goods passes. In the present case, the goods were manufactured outside India and even the sale has taken place outside India. Thereby, no part of the income accrued to the assessee in India. The terms of the contract make it clear that the acceptance test is not a material event for the passing of the title and risk in the equipment supplied. It is further held that payment received by the assessee was towards the title and GSM system of which software was an inseparable parts incapable of independent use and it was a contract for supply of goods. Therefore, no part of the payment therefore can be classified as payment towards royalty. The assessee together with supply of hardware and software has to over-see installation thereof to ensure that it was carried out to the satisfaction of Indian buyer in accordance with the terms of the contract. It is clear that under the Supply Contract, the assessee has not earned any income in India through or from any business connection. Because the installation contractor is a subsidiary of the assessee holding company would not, by itself, give rise to a business connection. Therefore, assessee did not have any business connection in India. In view of this, it is not necessary to go into the issue whether the assessee had any Permanent Establishment in India or not during the relevant period in India or not.- As it is nobody's case that the respondent has rendered technical services which are deemed to accrue or arise in India when it supplies the equipment or the software, the insertion of the Explanation below section 9 and the addition of clause (ii) in the said Explanation by the Finance Act, 2010 has no relevance insofar as the appeals before this Court are concerned. In our opinion on the facts of this case, it may not even be necessary to go into this issue for the reason that in respect of clauses (v),(vi), and (vii) of sub Section (1) of Section 9, once it is held that payment in question is not royalty which would come within the mischief of clause of clause (vi), the Explanation will have no application. Therefore, it is not necessary to go into the question as to whether the purpose of this amendment was to undo the effect of Ishikwajima [2007 (1) TMI 91 - SUPREME COURT] by providing 'source rule' as taxable under Section 9 of the Act. In the present case, once it relates to supply of goods and further in any case, where both the transfer of the property in goods or risk passed outside India, the conclusion is that no taxable event took place in India. The question of applicability of the Explanation would arise only when payment is to be treated as 'royalty' within the meaning of clause (vi) or 'fee for technical services' as provided in clause (vii) of the Act. The result of the aforesaid discussion would lead to the answer to questions framed in favour of the assessee and against the revenue and would result in the dismissal of the appeals of the Revenue. Issues Involved:1. Whether the assessee had a business connection in India.2. Whether the assessee had a permanent establishment in India.3. Whether the income from the supply contract can be treated as 'royalty' under Section 9(1)(vi) of the Income Tax Act.4. Validity of notices issued under Section 142 of the Income-Tax Act.5. Levy of interest charged under Section 234B of the Income Tax Act.Issue-wise Detailed Analysis:1. Business Connection in India:The Tribunal concluded that no part of the income accrues or arises in India because the property in the goods passed outside India as per Article 13 of the Supply Contract. The Tribunal held that the mere signing of the contract in India was irrelevant. The acceptance test carried out in India was also deemed irrelevant. The Tribunal found that the contracts could not be treated as turnkey or works contracts. It was concluded that there was no business connection in India as the income from the supply of equipment accrues outside India, where the equipment is manufactured and the property passes outside India.2. Permanent Establishment (PE) in India:The Tribunal found that the assessee did not have a permanent establishment in India. The Tribunal noted that the supply contract and installation contract were separate, and the installation contractor was independently assessed to tax in India. The Tribunal rejected the argument that the overall agreement created a business connection in India. The Tribunal concluded that no part of the income accrued to the assessee in India and no income could be regarded as deemed to accrue in India.3. Income from Supply Contract as 'Royalty':The Tribunal held that the payment made by the cellular operator cannot be characterized as royalty under the Income Tax Act or the DTAA. The Tribunal reasoned that the operator did not acquire any of the seven rights under Section 14(a)(i) to (vii) of the Copyright Act, 1957. The Tribunal also noted that the software was an integral part of the GSM system and could not be used independently. The Tribunal concluded that the payment was for the supply of goods, not royalty.4. Validity of Notices under Section 142:The Tribunal initially concluded that the notice issued under Section 142 was invalid as it was issued after the end of the assessment year. However, subsequent to this decision, the Finance Act, 2006 added a proviso to Section 142(i) of the Act, making such notices valid. The assessee conceded this position, and the question was decided in favor of the Revenue.5. Levy of Interest under Section 234B:The Tribunal deleted the levy of interest under Section 234B, holding that the assessee had no obligation to pay advance tax as tax was deductible at source on its income. This position was supported by the judgment of the Bombay High Court in DIT v. N.G.C. Network Asia LLC, and the Delhi High Court in CIT v. Mitsubishi Corporation. The question was answered in favor of the assessee.Conclusion:The High Court upheld the Tribunal's findings that the assessee did not have a business connection or permanent establishment in India, and the income from the supply contract could not be treated as royalty. The notices issued under Section 142 were deemed valid due to the amendment by the Finance Act, 2006. The deletion of the levy of interest under Section 234B was also upheld. The appeals of the Revenue were dismissed.