TaxTMI 
TaxTMI 
2007 (8) TMI 477
X X X X Extracts X X X X
X X X X Extracts X X X X
....h was heard along with this appeal. Learned representatives have fairly agreed that whatever is decided in the assessment year 1996-97 will follow in this year as well. 5. While dealing with the assessment year 1996-97, and vide our order dated 13-4-2007, we have observed as follows : "5. We find that all the three orders passed by the co-ordinate Benches, which have been cited at the bar by the learned counsel, dealt with the issue as to whether or not artificial disallowances under the Indian Income-tax Act can be made while computing the profits attributable to a PE under the old India-France tax treaty [(1970) 76 ITR (St.) 1]. In the first order in the case of Degremont International (supra), which has been subsequently followed in other orders cited at the bar, the co-ordinate Bench was dealing with the question whether restriction on deduction of head office expenses under section 44C is to be viewed as contrary to the provisions of the India-France tax treaty. A note was taken of Article III(3) of the treaty which provided that, as summarised in the said order, "whatever is reasonably allocable out of the expenditure incurred in both the countries, should be allo....
X X X X Extracts X X X X
X X X X Extracts X X X X
....der : Article XI : The laws in force in either of the Contracting State will continue to govern the taxation of income in respective Contracting State except where provisions to the contrary are made in the present agreement. In view of the aforesaid clause, the provisions of the Income-tax Act, 1961, relating to computation of taxable income will apply in the case of the assessee except where the provisions contained in the DTA are contrary to the conditions specifically mentioned in the IT Act. Therefore, the CIT(A) was not justified in deleting the aforesaid disallowances on the ground that all the provisions will not be applicable in the case of the assessee...' 6. In this view of the matter, Tribunal's decision in the case of Degremont International (supra) was not applied in subsequent decisions in the context of the tax treaties where specific provisions are made to the effect that the laws in force in either of the Contracting State will continue to govern the taxation of income in respective Contracting State except where express provisions to the contrary are made in the such agreement. The decision in Mitsubishi's case (supra) is a ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... interest or any other sum chargeable under the provisions of this Act (not being income chargeable under the head 'Salaries' shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force." The Branch/PE of the assessee in India is not a person in legal terminology. The person is the Corporate Body-ABN Amro Bank NV and not its Branch or the PE. This is also evident from the fact that assessment in this case is made on the Corporate Body-ABN Amro Bank NV and not on its Branch or PE. We, therefore, find force in the assessee's contention that the provisions dealing with deduction of tax at source under section 195 pre-supposes the existence of two distinct and separate entities which is absent in the present case. On both the grounds therefore section 40(a)( i) does not come into play. Disallowance of interest on this by invoking the provisions of this section would not be justified.' 8. As regards the question of impermissibility of artificial disallowances by the virtue of the pr....
X X X X Extracts X X X X
X X X X Extracts X X X X
....rinciple, as laid down while dealing with Netherlands treaty, that payments from self to self cannot saddle the assessee with tax withholding liability. We are in respectful agreement with the principle so laid down by the Special Bench. We have noted that the Tribunal has not given any finding direct or even indirect-approving the argument that artificial disallowances are not permissible under the provisions of the India-Japan tax treaty. The Special Bench has merely speculated about the reasons of the Assessing Officer's stand about non-deduction of tax at source, and has not adjudicated upon the same. The Special Bench did not see, and very appropriately so, any need to adjudicate on this ground, because irrespective of whether or not provisions of section 40(a)(i ) laying down disallowance of expenditure in respect of which tax withholding liability is not discharged by the assessee, apply to the assessee, there was no tax withholding requirement on payments from branch office to head office, or vice versa. The question about applicability of section 40(a)( i), therefore, was entirely academic in this context. Merely because the Special Bench has noted an argument, even th....
X X X X Extracts X X X X
X X X X Extracts X X X X
....other restrictions on deductibility of expenses under the Indian Income-tax Act continue to be applicable, in computation of profits attributable to Indian PEs of UAE tax residents. The plea of the assessee is thus devoid of legally sustainable merits. 10. The Canadian Federal Court had an occasion to deal with the question whether a tax treaty, when providing that 'in determining the profits of a PE, there shall be allowed as deduction, expenses which are incurred for the purposes of the PE, including executive and general administrative expenses so incurred, whether in the State in which PE is situated or elsewhere' enable the deduction of items not permitted by domestic law, so that non-residents are better off than residents. Even without the aid of a provision similar to one which exists in Article 25(1) of the India-UAE tax treaty, the Court answered this question in negative and decided the issue against the taxpayer. In the case of Utah Mines v. The Queen [92 DTC 6194, (1992) 1 CTC 306], and while dealing with the issue whether in view of the provisions of Article 7(3) of Canadian-US tax treaty, royalties paid by PE of US company to the provincial Governmen....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... is also referred to by some of the Tribunal decisions cited by the learned counsel. Learned counsel submits that it cannot be open to a Contracting State to shy away from implementing a tax treaty on the ground that the consequences of its implementation could be contrary to the intentions of the treaty. We are thus urged to interpret the provisions of section 7(3) to mean that all the expenses, irrespective of the limitations under the domestic tax laws, incurred by the PE are to be allowed as deduction in computing the taxable profits of the PE. 12. We are not impressed with this line of reasoning either. As far as learned counsel's reference to exemptions available to non-resident tax-payers, under the Indian Income-tax Act, is concerned, it is important to bear in mind that an exemption for aliens essentially seeks to restrict host country's jurisdiction to tax, and it is well-settled that, as has also been observed by Prof. Kees Van Raad, 'while nationality is virtually unconditionally employed as a ground of non-discrimination,. . . ., it is not related to the use of nationality as jurisdictional basis for Income-taxes...' (Non-discrimination in Inco....
X X X X Extracts X X X X
X X X X Extracts X X X X
....received under agreements made after 29-2-1964, and approved by the Central Government was also taxed at the same rate. In either case, the taxable income was determined on net basis, i.e., after allowing deduction in respect of costs and expenses incurred for earning the income. 26.2 The Finance Act has inserted a new section 44D in the Income-tax Act, 1961, which lays down special provisions for computing income by way of royalties and fees for technical services received by foreign companies from Indian concerns. . . . 26.3 As regards royalties and technical service fees received under agreements made on or after 1-4-1976 (other than agreements which though made on or after that date or regarded as having been made before that date as explained in paragraph 26.2) no deduction will be allowed in computing the income from the aforesaid sources, regardless of whether the agreement has been.... 36.1 . . . income by way of royalty or fees for technical services received by them from Indian concerns in pursuance of approved agreements made on or after 1-4-1976, will now be charged to tax at flat rates applicable on the gross amount of such income. The rates ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ein the emphasis is on the 'true intentions' rather than 'literal meaning of the words employed': Contrary to an ordinary taxing statute, a tax treaty or convention must be given a liberal interpretation with a view to implementing the true intentions of the parties. A literal or legalistic interpretation must be avoided when the basic object of the treaty might be defeated or frustrated insofar as the particular items under consideration are concerned.' In the said judgment, as noted by their Lordships at page 743, the Federal Court of Canada recognized that "we cannot expect to find the same nicety or strict definition as in modern documents, such as deeds, or Acts of Parliament, it has never been habit of those engaged in diplomacy to use legal accuracy but rather to adopt more liberal terms." 15. It is thus clear that one of the basic principles governing the interpretation of tax treaties is that a tax treaty must be interpreted in good faith. Article 31(1) of the Vienna Convention governing the interpretation of tax treaties also lays down that, "a treaty shall be interpreted in good faith, in accordance with the ordinary meaning....
X X X X Extracts X X X X
X X X X Extracts X X X X
....tiations. Therefore, the wordings of a tax treaty are essentially dependent on the priorities of, and acceptability by, the Contracting States parties to such a tax treaty. It is only elementary that these factors vary from one of set of Contracting States to another set of Contracting States. The same purpose, therefore, can indeed be intended even by radically different phraseology employed in tax treaties to which a particular country is one of the parties. In the case of tax legislation, however, things are quite different, because, as we have emphasized earlier, tax legislations are unilateral acts of the law making bodies, and when a law making body makes even slightest departure from the expression it is used earlier, the normal inference is that such deviation, being a unilateral act, has some specific intent and purpose. The tax treaties being product of bilateral negotiations, deviation in language of the tax treaties entered into by a country, does not necessarily indicate a deviation in objectives and purpose that these tax treaties seek to achieve. It is also not common that some of the Contracting States are too conservative in their approach and insist on certain pro....
X X X X Extracts X X X X
X X X X Extracts X X X X
....fore us is much more favourable to the revenue because there is a specific provision for the applicability of the domestic law in the light of the provisions of the Article 25(1) of the India-UAE tax treaty. 19. Well known international tax scholar Prof. Klaus Vogel, in his book 'Klaus Vogel on Double Taxation Conventions' has taken note of some of the tax treaties which contain, in Article 7(3), a specific provision to the effect that allowability of expenses incurred for the purposes of PE has to be "according to the domestic law of the Contracting State in which the permanent establishment is situated" and, in this specific context, observed as follows : '... And the additional phrase that the deductible expenses shall be determined according to the domestic law of the State of the permanent establishment is merely a clarificatory one, since such profits of a permanent establishment as are subject to tax would have to be determined under the domestic law of the State of permanent establishment even if this were not expressly stipulated....' 20. In this view of the matter, unless there is a specific provision to the effect that restricti....
X X X X Extracts X X X X
X X X X Extracts X X X X
....cable to domestic companies. 9. This issue has also been considered by us while adjudicating upon assessee's appeal for the assessment year 1996-97, which was heard along with this appeal. Learned representatives have fairly agreed that our decision on the appeal for the assessment year 1996-97 will apply on this year as well. In our decision dated 13th April, 2007 on the said appeal, we have, inter alia, observed as follows: "28. It is also important to bear in mind that provisions of a tax treaty, override domestic law in India, by the virtue of specific provision to that effect in the Income-tax Act. Therefore, this superior position of the tax treaties vis-a-vis domestic law is subject to the conditions so laid down in the enabling provision set out under section 90 of the Act. Now, this enabling provision itself clarifies that differential tax rate between a domestic company vis-a-vis foreign company shall not be construed as discrimination against the foreign companies. To that extent, therefore, overriding effect of the tax treaty provisions is nullified, and the provisions of Article 26(2) of India-UAE tax treaty have to be construed in the light of this lim....
X X X X Extracts X X X X
X X X X Extracts X X X X
....r conditions. The plea of the assessee, therefore, does not meet our approval. 29. Prof. Kees Van Raad, a very well known international tax scholar, in his book "Non-discrimination in International Tax Law", published by Kluwer Law International (ISBN 90 6544 2669), has, at page 135, has observed that : '. . . a foreign entrepreneur who resides in State 'B' as individual, his tax position in State 'A' in respect of permanent establishment income must be compared with that of a resident individual of State 'A' who operates a similar enterprise in State 'A'. And if the foreign enterprise is operated by a corporation, its tax position must be compared with that of an 'A' State resident corporate taxpayer.' 30. Prof. Raad has made the above observations in the context of article 24(3) of the OECD Model Convention which provides that "the taxation of a permanent establishment which an enterprise of a Contracting State has in the other Contracting State shall not be less favourably be levied in that other State than the taxation levied on enterprise of that other carrying on the same activities". The observations ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....are his perception. It will indeed be unreasonable to expect parity in taxation of profit making organizations with non-profit making organizations, and taxation of local public welfare bodies in a State with taxation of bodies which are transnational in their operations. 35. In view of the above discussions, and for the detailed reasons set out above, we hold that just because Indian PEs of foreign banking companies are taxed at a rate higher than the rate at which Indian co-operative societies carrying out the same business activity are taxed, the provisions of Article 24(2), dealing with non-discrimination in taxation of PE, cannot be invoked. We, therefore, reject the grievance of the assessee as unsustainable in law." 10. We see no reasons to take any other view of the matter for the year before us. Following our decision for the assessment year 1996-97, we dismiss the grievance of the assessee and decline to interfere in the matter. The order of the CIT(A) stands approved and confirmed on this issue as well. 11. Ground No. 4 is also dismissed. 12. In Ground No. 5, the assessee has raised the following grievance: "The CIT(A) erred in confirming the a....
X X X X Extracts X X X X
X X X X Extracts X X X X
....market rate of US $ as on 31-3-1997 is Rs. 45 the loss on this unmatured contract as on 31-3-1997 is Rs. 30,000. It is this loss which was claimed as a deduction by the assessee. The deduction was declined by the Assessing Officer on the ground that it is a contingent loss which depends on how the markets will move on a future date; the actual loss or profit will depend on the prevailing market price as on the date when the contract is to mature e.g. on 10th May, 1997 in this case. Reliance was also placed upon the Hon'ble High Court judgment in the case of CIT v. Motor Industries Co. Ltd. [1998] 229 ITR 137 (Kar.). The Assessing Officer concluded that a loss, if any, on such forward contracts will only accrue on the date on which the contract is settled. Referring to Hon'ble Madras High Court's judgment in the case of Indian Overseas Bank v. CIT [1990] 183 ITR 200, the Assessing Officer noted that profit on unmatured forward contract could not be taxed as income, and that such profits were only notional profits. The Assessing Officer concluded that similar loss on unmatured contracts is also a contingent loss and not eligible for deduction from business income. Aggriev....
X X X X Extracts X X X X
X X X X Extracts X X X X
....fact that such a theory has the acceptance of the Hon'ble Supreme Court. Just because anticipated profits are not assessed to tax, it would not follow, as a corollary thereto, that anticipated losses cannot be allowed as deduction in computation of business income. In the light of these discussions, we are of the considered view that the very basis of the action of the Assessing Officer was vitiated in law and on facts. We, therefore, deem it fit and proper to direct the Assessing Officer to delete the impugned disallowance. The assessee gets the relief accordingly. 16. Ground No. 5 is thus allowed. 17. In Ground No. 6, the grievance raised by the assessee is as follows : The ACIT erred in upholding the ACIT's action and disallowing Rs. 1,43,200 by way of capital expenditure out of the pre-operative expenses. The appellants submit that it has already considered a sum of Rs. 26,17,500 paid to framework interior as capital expenditure. The sum of Rs. 1,43,200 towards payment of framework interior represents revenue expenditure and is allowable as such. 18. As far as this disallowance is concerned, the material facts are like this. The assessee did s....