Retrospective amendment cannot create TDS liability where tax was not deductible when payment was made under the treaty and existing law.

Disallowance under section 40(a)(i) for non-deduction of tax at source on payment to a Mauritius resident for market survey services was held unsustainable. The India-Mauritius DTAA contained no specific fees for technical services article, so the payment fell to be examined under the treaty's residuary business profits framework; as the recipient had no permanent establishment in India, the amount was not taxable as business profits under the treaty. The obligation to deduct tax was also tested against the law existing when the payment was made, and a later retrospective amendment could not create a withholding liability that was not possible to comply with at that time. The addition was deleted.

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Issues: Whether disallowance under section 40(a)(i) of the Income-tax Act, 1961 was sustainable for non-deduction of tax at source on payment made to a Mauritius resident for market survey services.

Analysis: The payment was examined in the context of the India-Mauritius DTAA, which does not contain a specific provision for fees for technical services. The treaty was treated as more beneficial where applicable, and income not expressly dealt with under the treaty was considered under the residuary/business profits framework. Since the recipient had no permanent establishment in India, the payment could not be taxed as business profits under the treaty. The disallowance was also tested against the position prevailing at the time of payment, when the Supreme Court had held that services rendered outside India were not taxable as fees for technical services under the then-existing law. A later retrospective amendment could not fasten an obligation to deduct tax at source retrospectively in a manner impossible to comply with at the relevant time.

Conclusion: The disallowance under section 40(a)(i) was not sustainable and the addition was directed to be deleted.

Ratio Decidendi: Where tax was not deductible under the law as it stood when the payment was made, a subsequent retrospective amendment cannot be used to sustain disallowance under section 40(a)(i) for failure to deduct tax at source.

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