TaxTMI 
TaxTMI 
2011 (12) TMI 91
X X X X Extracts X X X X
X X X X Extracts X X X X
.... 3. Bharti Cellular Limited : 15-12-1994 4. Birla AT & T Communication Ltd. : 05-04-1996 5. Cellular Communication India Ltd. (RPG Cellecom Ltd.) : 29-05-1996 6. J.T. Mobile Limited : 02-07-1996 7. Bharti Televentures Limited : 23-08-1996 8. Hexacom India Limited : 25-09-1996 9. Huchinstom Max Telecom Ltd. : 29-10-1996 10. Reliance Telecom Private Ltd. : 13-02-1997" 2. Pursuant to the aforesaid contracts, the assessee has supplied various hardware and software to the above mentioned cellular operators during the relevant assessment year. In regard to tax liability in India, the assessee claimed that it is not liable to tax under the provisions of the Income-Tax Act, 1961 and the Double Taxation Avoidance Agreement between Sweden and India (the "DTAA"). It is necessary to highlight that the assessee, as stated above, is a wholly owned subsidiary of the L.M. Group of Companies with whom the cellular operators had entered into supply agreements. The Ericsson Telephone Corporation India AB is also a foreign company with a branch in India and is a subsidiary of the parent company of the....
X X X X Extracts X X X X
X X X X Extracts X X X X
....). Such Acceptance Test was to be carried out by EFC in the first three months and by the ECL in the last nine months of the relevant year. The contracts were signed in India and till delivery to the port in India was the responsibility of the supplier. The supply was on CIP basis and after supply, the defective parts were to be replaced by the assessee. 7. On the aforesaid facts, the Assessing Officer after considering the provisions of the Income-Tax Act, 1961, and in particular Section 9 thereof, held that the assessee had a business connection in India and income of the assessee must be deemed to accrue or arise in India and as such was taxable in India. 8. The Assessing Officer also considered the question whether the assessee's income was taxable in India in view of Article 7 read with Article 5 of the Double Taxation Avoidance Agreement between India and Sweden and concluded as follows:- "1. The assessee has a permanent establishment in the form of a dependent agent establishment which is EFC. 2. The assessee also has a permanent establishment in the form of a dependent agent PE which is ECI in the later part of the year i.e. after July 1996. &nb....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... 36.15 = 137,63,94,621/- Taxable profit @ 26% = 35,78,62,601/- Less: H.O. expenses allowed u/s 44C @ 5% = 1,78,93,130/- Taxable Income = 33,99,69,471/- Tax @ 55% = 18,69,83,209/- ................ I Total consideration for software - US $ 1,10,72,708/- Converted into INR @ 36.15 - 40,02,78,394/- Tax @ 30% = Rs/12.00.83.513/- ............... II Total tax = (I) + (II) = 30,70,66,727/- Assessed. Issue necessary forms. Charge interest Penalty proceedings u/s 271 (1) (c) is initiated separately." 11. In an appeal filed against the aforesaid order of the DCIT, Non-Resident Circle, New Delhi on 28.03.2000, the Commissioner of Income-Tax (Appeals) examined the matter. The appellant had taken five grounds of appeal, apart from taking up two additional grounds subsequently as follows:- (i) Ground No.1 was that the learned A.O. had erred in holding that the income chargeable to tax in India accrued or arose to the assessee. This ground was held to be too general in nature by the CIT(A). (ii) Ground No.2 dealt with the assessee's business connection in India and the existence of permanent establishment in India. The CIT(A) decided the aspect of business con....
X X X X Extracts X X X X
X X X X Extracts X X X X
....see resulting in dismissal of the appeals of the Revenue and allowing the appeal of the assessee. Challenging that order of the Special Bench, the Revenue has filed appeal which is registered as ITA 507/2007. ITA 508/2007 arises from the order passed by the Tribunal disposing of the cross-objections of the assessee and ITA 511/2007 arises from the order of the Tribunal disposing of the appeal of the Revenue. Thus ITA 507/2007, ITA 508/2007 and ITA 511/2007 relate to one assessment year i.e. 1997-98. In the next assessment year, the ITAT followed the aforesaid order and challenging that order ITA 504/2007 is filed by the Revenue. These first three appeals were admitted on the following questions of law:- ITA 507/2007 "1. Whether in law, the Ld. Delhi Tribunal was justified in holding that the assessment was invalid inasmuch as it was framed pursuant to a notice issued under Section 142 91)(i) of the Income-Tax Act, 1961, which notice was issued beyond the period of limitation? 2. Whether in law, the Ld. Delhi Tribunal was justified in holding that the assessee did not have a business connection in India? 3. Whether in law, the Ld. Delhi Tribunal was....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... discussed in detail by this Court in CIT v. Mitsubishi Corporation in ITA 491/2008. Relying upon the judgment of Bombay High Court in DIT v. N.G.C. Network Asia LLC, 313 ITR 187, this Court reached the conclusion that no interest can be levied. 15. The circumstances of the present case are virtually similar. In fact, we may record that there was hardly any resistance by the Revenue to the aforesaid position. We thus answer this question in favour of the assessee and against the Revenue. 16. It is now the stage to deal with the basic issues raised in these appeals which are:- (1) Whether the assessee has business connection in India? (2) Whether the assessee has permanent establishment in India? (We may clarify that if the assessee has business connection in India, then this question may not even need to be considered). (3) Whether hardware and software components of the equipment can be segregated for the purpose of Section (1)(vi) of the Act? 17. The issue as to whether any income can be brought to tax in terms of the Act is dealt with in paras 103 to 123 of the Tribunal's order. The Tribunal has come to the conclusion that no part of the income accrues o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ontracts could not be treated as turnkey or a works contract. The Tribunal also did not accept the argument that by virtue of the overall agreement the income that arose to the assessee was chargeable to tax in India. As regards the overall agreement, the Tribunal held that the overall agreement was executed as a matter of commercial prudence as the cellular operator needs to be instilled with confidence that the project would ultimately take off and, therefore, he would insist on a single point responsibility. The Tribunal also noted that this was a common practice and Instruction No. 1829 issued by the Central Board of Direct Taxes which was in force on the first day of the assessment year also takes cognizance of the commercial necessity for having such overall responsibility. The Tribunal further found that no payment accrued either to the assessee or the installation contractor under the overall agreement, but the overall agreement merely ensured supervision and guaranteed the performance of all the contracts in a co-ordinated manner. The Tribunal further noted that the installation contractors and the assessee were separate independent entities and there was no evidence broug....
X X X X Extracts X X X X
X X X X Extracts X X X X
....of the three contracts, all entered into on the same day and at the same place in India, viz., Bangalore, indicates that they are all interlinked, inter-twined and inseparable. He pointed out that the assessee and its associated sister concerns had entered into contracts with the Indian buyers for the setting up of a GSM system in India. For the aforesaid purpose, the hardware and software was to be supplied/licensed by the assessee, the installation through a sister concern of the assessee was to be overseen by the assessee and the overall responsibility of the three contracts also was upon the assessee. He drew our attention to the salient features of the three Agreements which according to him conclusively show that they are, in effect, one integrated business arrangement. He specifically referred to the following features of these Agreements: Supply Agreement ♦ Preamble: Agreement for supply of hardware and software license. ♦ Article 5: Scope of the contract. The said clause uses the phrase "turn key basis". ♦ Article 18: Acceptance Test and Acceptance certificate issued by the Installation Contractor ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ature of the contract:- ♦ Overall responsibility was on the assessee for supply, erection and after sales services as evidenced by the Responsibility Matrix between the assessee company and JT MOBILES (as well as the other customers): Responsibility Matrix between Ericsson and JT MOBILES s per their contract JT Mobiles Ericsson Shipment CIP to agreed port in India X Management of Store X * Site packing in the store X * Delivery of documentation according to Annex 11. X Delivered on CD-ROM only as built documentation, MSC/BSC & BTSs X Delivered as hard copies only correction of remarks on as built documentation X Digitalization of maps (MSI format) X Development of nominal cellpan X Development normal coverage X Preparation of frequency plan X Drive test (when found necessary) for checking * X Suitability of chosen sites, preferably in conjunction with site survey Develop acceptance plan * X Provision of equip....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ble of the Overall Agreement, which indubitably shows that there was only one integrated agreement whereunder: "The Supply Contractor and the Installation Contractor have agreed to work on a coordinated basis under two separate contracts, being one between JT MOBILES and the Supply Contractor for Hardware and Software Supply and the other between JT MOBILES and the Installation Contractor for the Installation of the system" so as to supply the system and install and commission the system. 23. According to him, another error in the order of the Tribunal was that while interpreting the scope of the contracts, even the other provisions of the Overall Agreement were not given adequate weight especially Article 6 of the Overall Agreement, which reads as follows :- "6. Precedence - This Agreement shall prevail over the Contracts, notwithstanding anything to the contrary contained therein." 24. His submission was that this clause clearly shows that the Overall Agreement between JT MOBILES (the cellular operator) and the Supply Contractor (the assessee) and the EFC (the Installation Contractor) "concerning some additional terms and conditions due to the Supply and Installation of a Mobi....
X X X X Extracts X X X X
X X X X Extracts X X X X
....Marketing and Business Promotion Agreement and thus it cannot be said that there was "intimate connection between the parties" is also erroneous. 27. His next proposition, on this aspect, was that under the above contracts income had accrued and arisen to the assessee in India and therefore it was taxable in India. In this behalf Mr. Prasaran made following submissions: - (a) Under Section 5 (2) (b) the income of a non-resident is includible in that income subject to tax under section 4 if the said income accrues or arises or is deemed to accrue or arise in India. (b) Income is said to accrue or arise in India to an assessee if the assessee had a right to receive the money that can be traced to India. (c) Whether or not the right to receive the money has arisen in India is dependent on the facts of each case. Relevant factors in this regard will include inter alia the place where the contract is entered into, the place where the contract has to be performed, where a given right can be exercised and what sort of rights are granted in India. (d) In the present case, it is undisputed that:- * All the vendeees are based in India * The GS....
X X X X Extracts X X X X
X X X X Extracts X X X X
....as placed by him on the judgment of the Supreme Court in Ishikawajma Harima heavy Industries Ltd. v. DIT, 288 ITR 408 where the Court has held that the fact that the contract was signed in India is of no material consequence since all activities in connection with the off shore supply were carried on outside India. This judgment has been followed by the Authority of Advance Rulings in Hyosung Corporation, 314 ITR 343, where the fact situation was even less favourabe than the assessee's case. 30. He also submitted that the decision in Ishikawajima's case completely covers the issue as to whether any part of the profit arising from the supply of the equipment by the assessee is chargeable to tax. He further submitted that in the instant case the title to the system as well as risk therein passed to the cellular operator at the part of establishment in Sweden and in fact this position was not seriously disputed by the Revenue at the time of arguments. He relied upon Section 19 of the Sale of Goods Act which makes it clear that property in goods passes when the parties intend it to pass and in the present case, according to him, the intention of the parties was manifested in Article 1....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ipal and principal to spell out a business connection such as management control or financial control or by way of sharing of profits for a business connection to come into existence. In support, he referred to the decision in the case of CIT v. Hindustan Shipyard Ltd. 109 ITR 158, CIT v. Gulf Oil Great Britain Ltd. 108 ITR 874 and Circular No.23 dated 23rd July, 1979. 33. His further submission was that the installation contractor also cannot be regarded as a business connection through which the assessee has earned any income in India, as the income of the assessee arises as a consequence of the supply contracts entered into with the cellular operator. There is no contract between the assessee and the installation contractor and, therefore no profit arises therefrom. The mere fact that the installation contractor is a subsidiary of the assessee's holding company would not, by itself, give rise to a business connection of the assessee as held in Gulf Oil Great Britain Ltd. (supra). 34. His alternate submission was that even assuming the assessee is regarded as having a business connection in India, either in the form of the installation contractor or in the form of the cellular ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....utside India; (ii) In the case of Ishikawajima's even though it was to perform onshore services including the erection and commissioning of the equipment supplied by it, nevertheless, the Supreme Court held that no part of the profit on the offshore supply of the equipment was taxable in India as a consequence of the performance of such activities in India. In the assessee's case the assessee does not perform any service in India in connection with the installation of the equipment or otherwise; (iii) the performance of the acceptance test in India was not considered a relevant circumstance whilst determining whether any part of the profit on the offshore supply was chargeable to tax in India in the case of Ishikawajima, so also in the assessee's case. (iv) although admittedly a permanent establishment existed in the case of Ishikawajima, nevertheless, the Court held that no part of the profit arising from the supply of the equipment was chargeable to tax in India as the permanent establishment had no role to play in the transaction sought to be taxed as it took place abroad, whilst in the case of the assessee, it has been found as a fact by both the appellate authorities that n....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... on the basis that the assessee had entered into contracts with cellular operators in India for setting up of GSM system in India, the hardware and software for which was supplied by the assessee, and the installation thereof was also over-seen by the assessee who was to ensure that it was carried out to the satisfaction of Indian buyer in accordance with the terms of the contract. Various clauses of Overall Agreement as well as Installation Agreement have been relied upon as already noticed above. Article 15 of the Installation Agreement deals with acceptance test made by the Installation contractor which "includes the integrity of whole system and certificate binds the assessee". Article 17 provides warranties to rectify the defects in both hardware and software provided by the assessee. On this basis it was argued that the Assessing Officer rightly concluded that overall responsibility was on the assessee for supply, erection and after sale services and the assessee had complete control over the management, functions and the associates. The question that falls for consideration is as to whether this acceptance test, which was performed in India, would be relevant for determining....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ale took place outside India. In such a situation, one has to apply the test of predominance and decide where the sale took place ? On a combined reading of the clauses of the agreement, we have no doubt that the sale of machinery did take place outside India." 42. We may also usefully referred to the judgment of the High Court in Mahavir Commercial Company v. CIT, 86 ITR 147 wherein following principle was enunciated: "Even though the property in the goods may pass to the buyer when the documents are handed over, the buyer may yet retain the right to examine and repudiate the goods but this right generally which a buyer has in c.i.f. contract does not by itself indicate that the property in the goods has not passed to him. This supposed incongruity was sought to be explained per curiam in Kwei Tek Chao v. British Traders and Shippers Ltd. (1954) 2 K.B. 459. that if property passed when the documents are transferred that property is subject to the condition that the goods should re-vest in the seller if on an examination by the buyer he finds them not to be in accordance with the contract. It is not necessary to consider this aspect because in any case the ascertainment of the ob....
X X X X Extracts X X X X
X X X X Extracts X X X X
....t the activity which gave rise to the income, namely, the activity of broadcasting took place in India, and it was in these circumstances the Court held that the royalty earned by the assessee therein accrued in India even though the agreement pursuant to which such royalty was earned was executed in England. Merely because the activities, namely, the supply activity and the installation activity are to be carried out by two separate Companies who are part of the same Group cannot result in the transaction being treated as one composite transaction. This is more so when both the entities perform their own independent obligations, receive appropriate separate remuneration and, as found by the Tribunal, are not financially or technically dependent on each other. 46. Further, all of them are assessed in respect of the income that has accrued to them and even the Revenue has, in the course of its arguments, accepted that it is not their case that only one assessment has to be made treating the transaction as one works contract. 47. Section 9 (1) (i) of the Act as it stood before the amendment to it by the Finance Act, 2010 provides that income accruing or arising, whether directly or....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ident, but the Tribunal has found as a fact that all the contracts regarding the have been made in U.K. principally on the basis that the indents which were placed by the India subsidiary with the non-resident company were accepted by the non-resident company in U.K." Permanent Establishment (PE): 49. We, therefore, hold that the assessee did not have any business connection in India. In view of this, it is not necessary to go into the issue whether the assessee had any Permanent Establishment in India or not during the relevant period in India or not. Whether the Income from the supply contract can be treated as 'Royalty' under section 9(1)(vi) of the Act: 50. Section 9 (1) (i) of the Act which deals with the taxability of 'royalty income' reads as under:- "Section 9 Income Deemed to accrue or arise in India. (1) The following incomes shall be deemed to accrue or arise in India :- (i) All income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India, or through the transfer of a capital asset situate in India" 51. T....
X X X X Extracts X X X X
X X X X Extracts X X X X
....he Copyright Act, 1957 but also the Income Tax Act itself. His submission was that Section 52(1) (aa) of the Copyright Act only deems that certain acts will not to amount to infringement in the light of various concerns, where otherwise such acts would amount to infringement under Section 51 of the Copyright Act. The provision cannot by itself be used to hold that no right exists in the first place, since the scope of the right has to be understood only from the provisions of Section 14 of the Copyright Act, 1957. He also argued that the ITAT has misinterpreted the provisions of the DTAA, specifically Article 13, para 3 of the DTAA (Article 12, para 3 of the Model Convention) which defines royalties to mean "payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work". The ITAT, it was submitted, has not appreciated that the royalty is for the use or right to use any copyright. According to him, since title of the software continued to vest with the assessee as provided in clause 20.2 of the Supply Agreement and the assessee was free to grant non-exclusive licenses to other parties, it follow that ther....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ngible or intangible. We are in complete agreement with the observations made by this Court in Associated Cement Companies Ltd. (supra). A software programme may consist of various commands which enable the computer to perform a designated task. The copyright in that programme may remain with the originator of the programme. But the moment copies are made and marketed, it becomes goods, which are susceptible to sales tax. Even intellectual property, once it is put on to a media, whether it be in the form of books or canvas (In case of painting) or computer discs or cassettes, and marketed would become "goods". We see no difference between a sale of a software programme on a CD/floppy disc from a sale of music on a cassette/CD or a sale of a film on a video cassette/CD. In all such cases, the intellectual property has been incorporated on a media for purposes of transfer. Sale is not just of the media which by itself has very little value. The software and the media cannot be split up. What the buyer purchases and pays for is not the disc or the CD. As in the case of paintings or books or music or films the buyer is purchasing the intellectual property and not the media i.e. the pap....
X X X X Extracts X X X X
X X X X Extracts X X X X
....preamble of the contract, Part-I and II of the contract and also the separate agreement, as referred to above, would clearly show that it was one and the same transaction. One cannot be read in isolation of the other. The services rendered by the experts and the payments made towards the same was part and parcel of the sale consideration and the same cannot be severed and treated as a business income of the non-resident company for the services rendered by them in erection of the machinery in Midhani unit at Hyderabad. Therefore, the contention of the Revenue that as the amounts reimbursed by Midhani under a separate contract for the technical services rendered by a non-resident company, it must be deemed that there was a "business connection", and it attracts the provisions of Section 9(1)(vii) of the Income Tax Act cannot be accepted and the judgments relied upon by the Revenue are the cases where there was a separate agreement for the purpose of technical services to be rendered by a foreign company, which is not connected for the fulfillment of the main contract entered into principal to principal. This is not one such case and thus the contention of the Revenue cannot be accep....
X X X X Extracts X X X X
X X X X Extracts X X X X
....yright and not a lump sum payment as is the position in the present case. 61. We thus hold that payment received by the assessee was towards the title and GSM system of which software was an inseparable parts incapable of independent use and it was a contract for supply of goods. Therefore, no part of the payment therefore can be classified as payment towards royalty. Effect of Amendment to section 9 of the Finance Act, 2010 62. We have to determine as to whether amendment made to Section 9 of the Finance Act, 2010 whereby Explanation to sub-Section (2) has been inserted has the effect of turning around the result. Vide Finance Act, 2010 the following amendment was made to sub-Section (2) of Section 9:- "Explanation- For the removal of doubts, it is hereby declared that for the purposes of this section, income of a non-resident shall be deemed to accrue or arise in India under clause (v) or clause (vi) or clause (vii) of sub section (1) and shall be included in the total income of the non-resident, whether or not,- (i) the non- resident has a residence or place of business or business connection in India; or (ii) the non-resident has rendered services....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... 9 through insertion of clauses (v), (vi) and (vii) in sub-section (1) for income by way of interest, royalty or fees for technical services respectively. It was provided, inter alia, that in case of payments as mentioned under these clauses, income would be deemed to accrue or arise in India to the non-resident under the circumstances specified therein. The intention of introducing the source rule was to bring to tax interest, royalty and fees for technical services, by creating a legal fiction in section 9, even in cases where services are provided outside India as long as they are utilized in India. The source rule, therefore, means that the situs of the rendering of services is not relevant. It is the situs of the prayer and the situs of the utilization of services which will determine the taxability of such services in India. This was the settled position of law till 2007. However, the Supreme Court in the case of Ishikawajima-Harima Heavy Industries Ltd. v. DIT [2007] 288 ITR 408, held that despite the deeming fiction in section 9, for any such income to be taxable in India, there must be sufficient territorial nexus between such income and the territory of India. It further....
X X X X Extracts X X X X
X X X X Extracts X X X X
....n accordance with Section 9 (1) (i) irrespective of the place of business, residence or presence of business connection in India. Moreover, in the specific context of royalty and fee for technical service, the second half of the Explanation makes it clear that services for which royalty or fee is being paid need not be rendered within the territory of India in order to be deemed as income accruing or arising in India. As per the learned counsel for the Revenue the scope of the said provisions is made clear when one examines the relevant Notes on Clauses that accompanied the Bill in its passage in Parliament: "Clause 4 of the Bill seeks to amend section 9 of the Income-Tax Act relating to income deemed to accrue or arise in India. The existing provisions contained in the Explanation occurring after sub-section (2) of the aforesaid section provide that, for the removal of doubts, for the purposes of the said section, where income is deemed to accrue or arise in India under clauses (v), (vi) and (vii) of sub-section (1), such income shall be included in the total income of the non-resident, whether or not, the non-resident has a residence or place of business or business connection ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....y's case that the respondent has rendered technical services which are deemed to accrue or arise in India when it supplies the equipment or the software, the insertion of the Explanation below section 9 and the addition of clause (ii) in the said Explanation by the Finance Act, 2010 has no relevance insofar as the appeals before this Court are concerned. 68. In our opinion on the facts of this case, it may not even be necessary to go into this issue for the reason that in respect of clauses (v),(vi), and (vii) of sub Section (1) of Section 9, once it is held that payment in question is not royalty which would come within the mischief of clause of clause (vi), the Explanation will have no application. 69. Therefore, it is not necessary to go into the question as to whether the purpose of this amendment was to undo the effect of Ishikwajima (supra) by providing "source rule" as taxable under Section 9 of the Act. In the present case, once it relates to supply of goods and further in any case, where both the transfer of the property in goods or risk passed outside India, the conclusion is that no taxable event took place in India. The question of applicability of the Explanation wou....