Tax Court Rules Liaison Office is Permanent Establishment, Income Taxable in India

The High Court affirmed the tribunal's decision that the liaison office in Bangalore constituted a permanent establishment under Article 5 of the Double Taxation Avoidance Agreement (DTAA) and that the income attributable to it was taxable in India. The court also held that the liaison office's activities exceeded the scope of permissions granted by the Reserve Bank of India, justifying the tax liability. The judgment highlights the significance of complying with regulatory permissions and the broad interpretation of what constitutes a permanent establishment for tax purposes.

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Issues: Whether the liaison office constituted a permanent establishment in India under Article 5 of the Double Taxation Avoidance Agreement, and whether the profits attributable to its activities were taxable in India under Article 7.

Analysis: The liaison office was found, on the material collected in the survey and the statements of employees, to be doing more than mere communication work. It was identifying customers, negotiating prices, procuring orders, processing orders, following up payments, and giving sales support. The fact that the formal purchase order was placed on the head office and payment was remitted to the head office did not alter the real nature of the activity carried on in India. Article 5 treats an office through which business is carried on as a permanent establishment, while Article 7 permits taxation in the source State to the extent profits are attributable to that permanent establishment. The restrictions in the RBI permission did not control the tax consequence where the actual conduct showed commercial activity.

Conclusion: The liaison office was held to be a permanent establishment in India, and the income attributable to it was held taxable in India. The finding was in favour of the Revenue.

Ratio Decidendi: Where an Indian liaison office in substance carries on commercial functions beyond preparatory or auxiliary work, it constitutes a permanent establishment and the profits attributable to that establishment are taxable in India under the applicable DTAA.

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