2026 (3) TMI 183 - HC - Income Tax

Withholding tax relief where payments are prima facie non taxable under the treaty-certificate reduced to 2% for the specified year.

Where payments to a non-resident prima facie are not exigible to tax under the Income tax Act read with the India-USA tax treaty, the Competent Authority ... Tax withholding certificate at the rate of 15% u/s 197 - petitioner, is a non-resident company and a tax resident of the USA - petitioner submitted that in spite of the fact that the nature of transactions carried out by the petitioner with its Indian counterpart is clear and though there is neither any involvement of royalty or copyright nor any reason to apprehend Fees for Included Services as per the India-USA DTAA HELD THAT: - The Court examined the impugned order and concluded that the petitioner's case is covered by the decision in Engineering Analysis Centre of Excellence Ltd. [2021 (3) TMI 138 - SUPREME COURT] and that the Competent Authority had not correctly dealt with that precedent nor taken other relevant factors into account. The absence of proper application of the settled precedent and failure to record reasons supporting the 15% rate rendered the certificate unsustainable in law. Although the Department contended that detailed examination of transactions in assessment proceedings is necessary to determine taxability and that a withholding certificate is not final, the Court found that those contentions did not justify maintaining the 15% certificate in the circumstances of this case. [Paras 9] The 15% withholding certificate issued by the Competent Authority is unsustainable. Since almost 85% of the period is already over and the payments made to the petitioner have been subjected to 15% tax, though the transactions prima-facie look to be not exigible to tax, if a certificate of deduction at 2% is issued to the petitioner so that the concern of the Revenue that the petitioner can be subjected to scrutiny assessment can be addressed and some respite can be given to the petitioner as a substantial amount is otherwise being withheld by the respondents. Final Conclusion: The petition was partly allowed - withholding certificate at 15% was held unsustainable and the respondent was directed to issue a tax withholding certificate requiring deduction at 2% for AY 2026-27 (FY 2025-26). Issues: Whether the Competent Authority erred in issuing a tax withholding certificate directing deduction at 15% under Section 197 of the Income-tax Act, 1961 for the petitioner (a non-resident US tax resident) for AY 2026-27, and whether a certificate for deduction at a lower rate should be issued.Analysis: The Court examined whether the Competent Authority correctly applied relevant legal principles, including Section 197 of the Income-tax Act, 1961 and the India-USA Double Taxation Avoidance Agreement, in determining the rate of deduction. The Court found that the petitioner's case is covered by the reasoning in Engineering Analysis Centre of Excellence Ltd. (supra) and that the Competent Authority did not correctly deal with that precedent or take relevant factors into account. The Court noted that the transactions prima facie appear not to be exigible to tax under the Act read with the India-USA Treaty, and observed that the certificate at 15% was issued without adequate reasoning. Considering that most of the relevant period had elapsed and substantial amounts were being withheld, but acknowledging the Revenue's right to examine the transactions in assessment proceedings and seek refund if appropriate, the Court determined that a lower withholding certificate at 2% would suitably balance the parties' interests while preserving the Revenue's right to scrutiny.Conclusion: The petition is partly allowed; the respondent is directed to issue a tax withholding certificate requiring deduction of tax at the rate of 2% for AY 2026-27 within 10 days. The direction applies only to the certificate for AY 2026-27 and does not preclude the Competent Authority from considering future applications in accordance with law.Ratio Decidendi: Where transactions prima facie are not exigible to tax under the Income-tax Act, 1961 read with an applicable tax treaty, the Competent Authority must apply Section 197 of the Income-tax Act, 1961 consistently with binding precedent and may grant a certificate for deduction at a lower rate to prevent disproportionate withholding while preserving the Revenue's right to assessment and refund.