Permanent establishment and profit attribution under tax treaty: actual revenues govern, while proven reimbursements without mark-up are not taxable.

Treaty-based permanent establishment was found in India because the assessee's services were rendered in India under Article 5(2)(k), and Article 15 did not alter that conclusion. Profit attribution to that permanent establishment had to be computed on actual revenues earned, so reworking client billing on a market-rate or arm's length basis was rejected. Reimbursements of actual expenses, supported by evidence and received without mark-up, were not taxable income. The assessee therefore succeeded only on the reimbursement issue, while the permanent establishment and attribution disputes were decided against it.

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Issues: (i) whether the assessee had a permanent establishment in India under Article 5(2)(k) of the India-UK tax treaty on the basis that services were rendered in India; (ii) whether the profits attributable to such permanent establishment could be computed by substituting market-based or arm's length billing rates instead of actual revenues; and (iii) whether reimbursements of expenses received by the assessee constituted taxable income.

Issue (i): whether the assessee had a permanent establishment in India under Article 5(2)(k) of the India-UK tax treaty on the basis that services were rendered in India.

Analysis: The treaty provision was applied on the footing that the expression used in the permanent establishment article covers services rendered in India, and that Article 15, dealing with individuals, did not assist the assessee in the facts of the case. The reasoning followed the earlier view that the assessee's India activities satisfied the treaty test for a permanent establishment.

Conclusion: The issue was decided against the assessee and it was held that the assessee had a permanent establishment in India.

Issue (ii): whether the profits attributable to such permanent establishment could be computed by substituting market-based or arm's length billing rates instead of actual revenues.

Analysis: For attribution under Article 7, the relevant exercise was to determine profits of the permanent establishment on the basis of the actual revenues earned by the enterprise, not by reworking the receipts on a hypothetical market-rate basis. The claim for adjustment of client billing rates was rejected as inconsistent with the treaty method of attribution.

Conclusion: The issue was decided against the assessee and the adjustment of receipts on a market-rate or arm's length basis was rejected.

Issue (iii): whether reimbursements of expenses received by the assessee constituted taxable income.

Analysis: The reimbursements were found to relate to actual expenses incurred without any mark-up, supported by sufficient evidence and control mechanisms. On that factual foundation, no part of such reimbursements was liable to be treated as income merely because the department disputed the extent of supporting evidence.

Conclusion: The issue was decided in favour of the assessee and the reimbursement receipts were held not taxable as income.

Final Conclusion: The assessee succeeded only on the reimbursement issue, while the permanent establishment and profit-attribution disputes were resolved against it, and the Revenue's challenge also failed.

Ratio Decidendi: Where treaty attribution applies, actual receipts and proven reimbursements govern the tax computation, while hypothetical re-pricing of client revenues is impermissible; reimbursements of actual without mark-up do not constitute taxable income.

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