AO's assessment erroneous for failing to examine foreign payments and offshore services under Section 263

ITAT Mumbai dismissed the assessee's appeal challenging CIT's revision order u/s 263. The tribunal held that the AO's assessment order was erroneous and prejudicial to revenue interests as it failed to examine foreign payments made directly by Indian Project Owners to Head Office and the nature/scope of offshore services. While TPO accepted domestic payments to Project Offices as arm's length, no inquiry was conducted regarding Head Office payments despite material on record indicating such transactions. The tribunal found CIT had valid jurisdiction under s.263 as AO granted tax treaty relief without proper verification of offshore services and income attribution to Indian Project Offices, triggering Explanation 2 to Section 263.

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Issues Involved:
1. Assumption of jurisdiction under Section 263 of the Income Tax Act, 1961.
2. Taxability of revenue pertaining to offshore services in India.

Summary:

1. Assumption of Jurisdiction under Section 263:
The Appellant challenged the order passed by the CIT under Section 263 of the Income Tax Act, 1961, which set aside the Assessment Order dated 30/05/2021, holding it to be erroneous and prejudicial to the interest of the Revenue. The CIT concluded that the Assessing Officer (AO) failed to conduct necessary inquiries and verification regarding offshore services rendered by the Appellant outside India and the Appellant's claim under the Double Taxation Avoidance Agreement (DTAA) between India and Korea. The CIT noticed that the AO did not properly verify the total receipts, tax treaty benefits claimed, offshore services rendered, and the attribution of income from Indian operations to the Permanent Establishment (PE) in India. The CIT issued a notice under Section 263(1) requiring the Appellant to show cause why the assessment order should not be set aside. Despite the Appellant's detailed submissions, the CIT was not convinced and noted that the AO passed the assessment order without proper application of mind and necessary inquiry.

2. Taxability of Revenue Pertaining to Offshore Services:
The CIT held that no offshore activities were performed by the Appellant and all activities were performed onshore in India. The CIT concluded that the offshore services rendered by the Appellant were provided at the project offices through employees, constituting a service PE in India. Thus, the entire offshore revenue towards such services was attributable to the PE under Article 7 of the DTAA and taxable in India. The Appellant contended that the payments made by Indian Project Owners to the Head Office were not liable to tax in India as they were for offshore services. The Appellant argued that similar payments were examined in earlier years and no additions were made. However, the CIT concluded that the AO failed to make necessary inquiries and verification regarding the payments made to the Head Office, and therefore, the assessment order was erroneous and prejudicial to the interest of Revenue.

Conclusion:
The Tribunal held that the CIT had jurisdiction to exercise power of revision under Section 263 as the AO failed to carry out necessary inquiries and verification. However, the Tribunal found merit in the Appellant's contention that the CIT was not justified in concluding that the payments made by Indian Project Owners to the Head Office were liable to tax in India without confronting the Appellant, leading to a violation of principles of natural justice. The Tribunal directed the AO to examine the issue of taxability of payments made by Indian Project Owners directly to the Head Office afresh as per the provisions of the Act and Tax Treaty, after giving the Appellant an opportunity of being heard. The appeals were partly allowed with the modification that the AO should re-examine the taxability issue.

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