Offshore sales remain outside Indian taxation where no Indian business connection, permanent establishment, or profit-generating operations exist.
Offshore sales by a non-resident to an Indian affiliate or customers are not taxable in India where contracts are concluded and title and risk pass outside India, and no sales-related operations are undertaken in India. Under the business-connection rule, only income attributable to Indian operations may be taxed. An Indian affiliate does not create a fixed-place permanent establishment unless its premises are at the foreign enterprise's disposal, and does not create an agency permanent establishment without authority to conclude contracts, habitually secure orders, or maintain stock for delivery. In the absence of a business connection or permanent establishment, no business profits are attributable to India under the treaty.
Issues: (i) Whether profits from offshore sales of CKD kits, raw materials, spare parts and CBU cars to the Indian affiliate or customers were taxable in India through a business connection; (ii) Whether the Indian affiliate constituted a fixed place or agency permanent establishment of the German enterprise under the India-Germany Double Taxation Avoidance Agreement; (iii) Whether any profits from the relevant sales were attributable to activities in India.
Issue (i): Whether profits from offshore sales of CKD kits, raw materials, spare parts and CBU cars to the Indian affiliate or customers were taxable in India through a business connection.
Analysis: Under Section 9(1)(i) of the Income-tax Act, 1961, only income attributable to operations carried out in India may be brought to tax. The sales were concluded outside India on a principal-to-principal basis, with title and risk passing outside India. The Indian affiliate conducted its own business, including assembly and subsequent sale, while the non-resident undertook no manufacturing, sale or distribution operations in India in respect of those supplies. No distinguishing facts or legal change from the earlier years was shown.
Conclusion: The Indian affiliate did not constitute a business connection, and the profits from the relevant sales were not taxable in India. This issue is in favour of the assessee.
Issue (ii): Whether the Indian affiliate constituted a fixed place or agency permanent establishment of the German enterprise under the India-Germany Double Taxation Avoidance Agreement.
Analysis: Article 5 requires that the foreign enterprise carry on its business through a fixed place at its disposal, or through a qualifying dependent agent. The Indian affiliate's premises were not at the disposal of the assessee; it had no authority to negotiate or conclude contracts for the assessee, did not habitually secure orders or maintain the assessee's stock for delivery, and merely facilitated communications in direct CBU sales. Its activities were independent and preparatory or auxiliary to such direct sales.
Conclusion: The Indian affiliate was neither a fixed place permanent establishment nor an agency permanent establishment of the assessee in India. This issue is in favour of the assessee.
Issue (iii): Whether any profits from the relevant sales were attributable to activities in India.
Analysis: Article 7 permits taxation only of profits attributable to a permanent establishment. Since no business connection or permanent establishment existed and no operations of the assessee relating to the sales were undertaken in India, the basis for attributing business profits to India failed.
Conclusion: No profits from the sales of CKD kits, raw materials, spare parts or CBU cars were attributable to India. This issue is in favour of the assessee.
Final Conclusion: The deletion of the addition for profits allegedly attributable to Indian activities was sustained for both assessment years.
Ratio Decidendi: Offshore sales by a non-resident are not taxable in India where the Indian affiliate neither performs operations giving rise to the sales income nor satisfies the conditions for a fixed place or agency permanent establishment.