Tuesday, May 21, 2013

Margin of trading segment can’t be applied to indenting segment; no re-characterization unless facts justify

TPO cannot re-characterize assessee's indenting activity as trading activity unless it can be demonstrated by facts on record that the assessee though calling it a "service provider" was actually acting as a "trader". Absent facts justifying such re-characterization, there was no justification for TPO to apply trading margins to assessee's indenting activity under TNMM

In the instant case, the assessee had two segments-trading and indenting. Indenting was done by the assessee for its overseas AE and bulk of its turnover was from indenting.  Besides, indenting, assessee had small amount of trading with non-AEs. The gross profit margin (commission) for indenting on AE sales was 1.48% while GP margin on trading was 1.81%. TPO applied trading margin of 1.81% to indenting sales and made additions for difference between 1.81% and 1.48%. DRP upheld TPO's additions. Hence present appeal by assessee to ITAT

The Tribunal held as under:

1) As per the contracted terms and the unrebutted stand of the assessee it was merely providing indenting services. At no point of time the title in goods or possession of the merchandise was in assessee's hands. The contract was entered into by SCJ (AE) and Indian customers directly whether for export or import;

2) The negotiations were directly done by AE and the Indian customers, and the assessee merely functions as a facilitator. The assessee doesn’t need to incur cost either for maintaining or storing the inventory or for the transportation as the title in goods was never held by the assessee for its indenting activity as a service provider. Consequently, the assessee was not exposed to any credit risk in maintaining the inventory nor was the assessee exposed to price risk or the risk linked with offering credit sales;

3) It is an accepted economic principle that the trader acting as an entrepreneur is exposed to price risk, cost risk, credit risk, warranty risk etc, which would necessitate the contract being entered into and negotiated by assessee. In its indenting activity these facts were not evident;

4)  The performance of the critical functions, like decisions to enter into contract, to negotiate the terms of the contract, to decide the level and extent of exposure for price risk, credit risk, warranty risk etc are some of the risks to which a trader is exposed. The record shows that at no point of time the assessee was ever exposed to any of those risks as such, the two activities could not be treated at par and thus invited a similar treatment. There was no justification to apply the margins of trading activity to indenting activity in the facts of the present case - Sojitz India (P.) Ltd. v. Dy.CIT [2013] 33 taxmann.com 299 (Delhi - Trib.)

Ambiguous language in Bill can’t be compared with Act ratifying it; SB ruling in Merilyn Shipping’s case not acceptable

The provisions of section 40(a)(ia) of the Income Tax Act, 1961, are applicable not only to the amount which is shown as payable on the date  of balance-sheet, but it is applicable to such expenditure, which become payable at any time during the relevant previous year and was actually paid within the previous year.

In the instant case, following issue came for consideration of High Court:

“Whether Special Bench ruling in Merilyn Shipping’s case lays down the correct law in respect of interpretation of section 40(a)(ia)”?

The High Court declined to accept the proposition given by the ITAT Special Bench in the case of Merilyn Shipping’s with following observations:

1) The provisions of section 40(a)(ia) of the Income Tax Act, 1961, are applicable not only to the amount which is shown as payable on the date of balance-sheet, but it is applicable to such expenditure, which become payable at any time during the relevant previous year and is actually paid within the previous year;

2) Comparison between the pre-amendment and post amendment law is permissible for the purpose of ascertaining the mischief sought to be remedied or the object sought to be achieved by an amendment. But the comparison between the draft and the enacted law isn’t permissible. Nor can the draft or the bill be used for the purpose of regulating the meaning and purport of the enacted law. It is the finally enacted law which is the will of the legislature;

3) The Learned Tribunal fell into an error in comparing the wordings of the provisions of Finance Bill and Finance Act for interpretation purposes;

4) The key words used in Section 40(a)(ia) are “on which tax is deductible at source under Chapter XVII –B”. If the question is “which expenses are sought to be disallowed?” The answer is bound to be “those expenses on which tax is deductible at source under Chapter XVII –B. Once this is realized nothing turns on the basis of the fact that the legislature used the word ‘payable’ and not ‘paid or credited’. Unless any amount is payable, it can neither be paid nor credited”;

5) The language used in the draft was unclear and susceptible to giving more than one meaning. By looking at the draft it could be said that the legislature wanted to treat the payments made or credited in favour of a contractor or sub-contractor differently than the payments on account of interest, commission or brokerage, fees for professional services or fees for technical services because the words “amounts credited or paid” were used only in relation to a contractor or sub-contractor. This differential treatment was not intended. But the language used by the legislature in the finally enacted law is clear and unambiguous whereas the language used in the bill was ambiguous. Majority views expressed in the case of Merilyn Shipping & Transports are not acceptable - CIT v. Crescent Export Syndicate [2013] 33 taxmann.com 250 (Kolkata)


Actual payment of tax isn’t a precondition to be a resident of partner country, as per India-UAE DTAA

As per Article 4(1) of India-UAE DTAA, to be a resident of contracting State, it isn’t necessary to pay tax there; mere right of contracting State to tax such person by reason of domicile, place of management or incorporation is sufficient

In the instant case, the assessee had challenged the section 40(a)(i) disallowance in respect of professional fee paid  to ‘V’, sole proprietor of KPMG, Dubai. Assessee, contended that these payments were made in pursuance of professional services carried out by KPMG, Dubai as understood in Article 14 of the India-UAE treaty dealing with independent personal services. It was stated that the income was not chargeable to tax in India since ‘V’ was not in India for more than 183 days during the previous year and, therefore, the question of deduction of tax at source didn’t not arise. The AO, on the other hand,  made disallowance on the footing that 'V' couldn’t take benefit of India-UAE treaty, as it couldn’t be treated as a resident of U.A.E. as per Article 4(1) of India-UAE DTAA, as he was not paying tax in U.A.E., which was confirmed by CIT(A). Aggrieved assessee filed the instant appeal.

The Tribunal held in favour of assessee as under:

1) Article 4(1) of India-UAE treaty provides that the term 'Resident' of a 'Contracting State' means any person, who, under the laws of that State (i.e. U.A.E.), is liable to tax therein by reason of his domicile, resident, place of management, place of incorporation, or any other criterion of similar nature. The term ‘liable to tax in the contracting State’ doesn’t necessarily imply that the person should actually pay the tax in that contracting State. Right to tax on such person is sufficient;

2) If a fiscal domicile of a person is in the contracting State, which in the present case has not been doubted was in U.A.E., then he was to be treated as resident of that contracting State irrespective of whether or not that person is actually liable to pay taxes in that country;

3) Liability to tax in the contracting State doesn’t imply that the person was actually liable to tax but would also cover the cases where the other contracting State has the right to tax such person. It is immaterial whether or not such right has been exercised. The basis for deducting the TDS under section 195 by the assessee for making the payment to 'V' was rejected. – KPMG v. JCIT [2013] 33 taxmann.com 23 (Mumbai - Trib.)

Rule of ‘force of attraction’ given in Article 7 of UN Model treaty can’t be imported into Article 7 of India-UK DTAA

Articles 7(1)(b) and 7(1)(c) of the UN Model Convention as well as of the UN Model Convention Commentary can’t be relied upon to come to a conclusion that the connotation of “profits indirectly attributable to permanent establishment” used in Article 7(1) of the Indo- UK treaty incorporated a force of attraction rule

In the instant case, the assessee- a U.K. partnership firm of Solicitors, was engaged in providing international legal services in certain areas and operated through its principal office in UK and branch offices in certain other countries. During the years under consideration, it rendered legal consultancy services in connection with different projects in India. It did not have an office in India. Assessee returned nil income relying on Art 15 of Indo-UK DTAA on the ground that the aggregate period or period of stay of its partners and employees during the said years did not exceed 90 days. Revenue rejected assessee’s claim on the footing that Article 7(1) of Indo-UK DTAA should be interpreted in the light of Article 7(1) of the UN Model Convention to read the force of attraction rule so as to deny assessee the benefit of Article 15 and tax the activities in India applying Article 7.

The Tribunal held in favour of assessee as under:

1) It would not be correct to say that the connotation of “profits indirectly attributable to permanent establishment” in Article 7(1) extend to the two categories of income as specified in clause (b) and clause (c) of Article 7(1) of the UN Model Convention and incorporate a force of attraction rule as held by the Division Bench of this Tribunal in the case of Linklaters LLP;

2) When the connotations of “profits indirectly attributable to permanent establishment” are defined specifically in Article 7(3) of the India-UK DTAA which clearly explains the scope and ambit of the profits indirectly attributable to the PE and the provisions of said article being unambiguous and capable of giving a definite meaning, there was no need to refer to the provisions of Article 7(1) of UN Model Convention which were materially different from the provisions of Article 7(1) of the India-UK DTAA read with Article 7(3) thereof - ADIT V. CLIFFORD CHANCE [2013] 33 taxmann.com 200 (Mumbai - Trib.) (SB)