Permanent establishment and profit attribution: liaison office activities crossed auxiliary limits, but only attributable profits can be taxed.

A liaison office was treated as a permanent establishment in India because its activities went beyond preparatory or auxiliary functions and extended to product explanation, commercial coordination, brand promotion, and market development. The treaty exclusion for preparatory or auxiliary activities therefore did not apply. On attribution, the taxing authority was required to determine only the profits actually attributable to the permanent establishment; a mere deduction of expenses from receipts was insufficient. The attribution issue was remitted for fresh determination, while the permanent establishment finding was sustained.

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Issues: (i) Whether the liaison office constituted a permanent establishment in India and whether its activities fell within the exclusion for preparatory or auxiliary activities under the applicable tax treaty; (ii) Whether, if taxable presence existed, the profits attributable to the liaison office could be assessed without determining the extent actually attributable to the permanent establishment.

Issue (i): Whether the liaison office constituted a permanent establishment in India and whether its activities fell within the exclusion for preparatory or auxiliary activities under the applicable tax treaty.

Analysis: The treaty definition of permanent establishment includes an office, but excludes a fixed place used solely for advertising or other preparatory or auxiliary activities. The material before the Assessing Officer showed that the liaison office did more than merely communicate between the head office and prospective buyers. It explained products to buyers, coordinated commercial discussions, promoted the brand, and operated with an incentive structure linked to orders and market awareness. These facts supported the finding that the office was engaged in marketing activities and not confined to auxiliary functions.

Conclusion: The liaison office was held to be a permanent establishment in India, and the exclusion for preparatory or auxiliary activities was held not to apply, against the assessee.

Issue (ii): Whether, if taxable presence existed, the profits attributable to the liaison office could be assessed without determining the extent actually attributable to the permanent establishment.

Analysis: Under the treaty, only so much of the enterprise's profits as are attributable to the permanent establishment may be taxed in the other State. The assessment order had merely deducted expenses from receipts without examining what profits, if any, were attributable to the permanent establishment. That attribution exercise had not been undertaken by the lower authorities, making fresh determination necessary.

Conclusion: The matter on attribution of profits was remitted for fresh determination by the Assessing Officer, in favour of the assessee on this limited aspect.

Final Conclusion: The finding that the liaison office was taxable as a permanent establishment was sustained, but the question of the quantum of income attributable to that establishment required reconsideration and was restored for fresh assessment.

Ratio Decidendi: A liaison office will constitute a permanent establishment where its real activities go beyond preparatory or auxiliary functions and amount to marketing or sales promotion, but only the profits attributable to that establishment can be brought to tax under the treaty.

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