From The Judiciary

Does IUC qualify as Royalty under the India-Japan tax treaty?

KDDI Corporation TS-266-ITAT-2024 (Bang)

Facts

The taxpayer, a resident of Japan, was engaged in providing telecom interconnect facilities to various Indian telecoms. During the relevant assessment year, the entity received certain Interconnection Usage Charges (IUC) from various telecom operators in India.

The Revenue argued that the IUC constituted Royalty and ought to be taxed in India. The taxpayer referenced a relevant judgment from the jurisdictional High Court in the case of Vodafone Idea Ltd. The argument put forward was that there is no involvement of either 'use of process' or 'use of equipment'. Additionally, it was asserted that the widened definitions of 'process' under Explanations 5 and 6 cannot supersede the provisions of the tax treaty. Furthermore, reliance was placed on a previous ruling by the Delhi Income Tax Appellate Tribunal (ITAT) in the case of Bharti Airtel, arguing that for a process to qualify as Royalty under Section 9(1)(vi), it must be confidential.

Held

It was observed that the installation and operation of advanced equipment are aimed at generating income by providing users with the benefits of such equipment or facilities. This does not equate to granting the use or right to use the equipment or process, and therefore, it does not fall within the definition of "Royalty" as outlined in clause 3 of Article 12 of the India-Japan DTAA.

Thus, the Tribunal held that payment received by taxpayers towards IUC from Indian customers/end users cannot be considered as Royalty to be brought to tax in India.

The payment received by the nonresident taxpayer amounted to a business profit, which is taxable in the resident country and is not taxable in India in the absence of a Permanent Establishment (PE) in India.

Our Comments

This case law provides an insight into understanding the interpretation of the tax treaty term 'use or right to use,' which differs from the terms "transfer of all or any rights" or "use of" in domestic law. It is crucial to note that the case law stresses that the expanded definition in the Act cannot override the provisions of the tax treaty.

Can treaty benefits be denied on non-submission of TRC despite filing tax return in the foreign jurisdiction?

Yogesh Kotiya TS-254-ITAT-2024(DEL)

Facts

The taxpayer, an employee of Nokia Solutions and Networks India Private Limited (Nokia India), was assigned overseas to Australia and performed employment duties with Nokia Australia. Despite working in Australia, the taxpayer received salary payments in India and sought the benefit of Article 15(1) of the India-Australia DTAA for the salary received.

Revenue denied treaty benefit under Article 15(1) of the India-Australia DTAA on the premise that the assessee had not submitted the Tax Residency Certificate (TRC) issued by Australian tax authorities.

The taxpayer provided copies of the assignment agreement, passport, and Australian tax return as evidence of taxes paid in Australia for the salary received in India, stemming from employment with Nokia Australia. Additionally, the Tax Residency Certificate (TRC) was submitted during the DRP proceedings as supplementary evidence to support the exemption claim for salary income under the India-Australia DTAA.

Held

The Tribunal observed that the Revenue denied tax treaty benefits to the taxpayer merely on the ground that TRC was not provided while ignoring all other facts like filing of the tax return in Australia and paying taxes there.

The Tribunal further held that combined reading of Sections 5, 9(1)(ii) and 15, “no taxability arises on the salary/ allowances received by the assessee since the assessee is a non-resident and has rendered services outside India.”

Thus, it was concluded that tax treaty benefits are to be provided to the taxpayer.

Our Comments

The case concludes that furnishing of TRC is not the ultimate test of tax treaty benefit in the case of a salaried nonresident and other evidence supporting residency should also suffice.

The High Court rejected Revenue's appeal against the ITAT order invoking provisions of Section 92(3), on the grounds of being 'thoroughly misconceived'

Mercer Consulting India Pvt. Ltd.² TS-115-HC-2024(DEL)-TP - AY 2011-12

The taxpayer, a captive Information Technology enabled Services (ITES) provider, followed a TP policy of charging cost plus 20% markup to its Associated Enterprise (AE). Furthermore, it also availed management support services from its AE. Since availing of services was linked to the main transaction of ITES, the payment for the same formed a part of the cost base for calculating the 20% markup charged to the AE.

The Transfer Pricing Officer (TPO) made an adjustment for ITES by determining Arm’s Length Price (ALP) margin of 29.53%. Furthermore, the TPO also determined the ALP of management support services at NIL. On appeal before the Dispute Resolution Panel (DRP) by the taxpayer, the DRP deleted the adjustment on rendition of ITES. However, it upheld the TPO’s determination of the ALP of management support services at NIL.

The ITAT stated that if the ALP of management services is determined at NIL, then such cost will have to be removed from the cost base and subsequently will also have to be removed from the computation of the amount receivable for rendition of ITeS to the AE resulting in reduction of profits and tax base. Hence, the provision of Section 92(3) gets invoked and accordingly, the ITAT upheld the taxpayer’s contentions.

The Revenue filed an appeal before the Hon’ble HC wherein it stated that if the challenge as raised by the Revenue were to be accepted, it would result in a reduction of the income chargeable to tax, and this fact is not questioned or disputed before the HC and consequently, no substantial question of law arises. Accordingly, the HC dismissed the appeal as being ‘thoroughly misconceived.’

Our Comments

The invocation of Section 92(3) is a crucial aspect of transfer pricing regulations in India, which can be seen from the said judgment passed by the HC wherein the Tribunal adopted a practical view by not getting into the merits of disallowance relating to Intra group service (IGS payment), but by addressing the issue in a fundamental context itself. However, the taxpayers should be conscious of the applicability of the said section as there may be finer nuances in terms of how the relevant provision is to be read.

Invoice/Separate Agreements between branches are not mandatory if an appropriate allocation key is adopted for cost allocation

Standard Chartered Bank Ltd³ TS-110-ITAT-2024(Mum)-TP

The taxpayer is engaged in banking in India through its branches. While filing its return, the deduction was claimed for expenses amounting to INR 769.3 million allocated by Head Office (AE/ HO) as they were directly attributable to Indian business operations.

The TPO asked the taxpayer to provide specific evidence to establish that the cost relates to the Indian Branch activity. Against this, the taxpayer was able to furnish documentation for approximately 60% of the cost. Furthermore, a certificate was also submitted from statutory auditors (CPA) of the HO that validated the cost allocation. However, the TPO rejected the certificate and allowed a deduction only to the extent of INR 419.7 million.

The Assessing Officer (AO) accepted the findings of the TPO but disallowed entire expenses on the grounds that invoices/intercompany agreements were not maintained for allocated expenses. The CIT(A) upheld the order passed by the AO/TPO.

The ITAT held that the nonexistence of intercompany agreements/ invoices was not an adequate reason for disallowance as expenses were allocated between internal cost centers of the same taxpayer and hence there is no mandate to have an agreement or invoice in place, approved internal memo is also enough. Furthermore, the CPA certificate furnished by the taxpayer for allocation keys would meet the requirement of Rule 10D. Hence, the ITAT remanded the matter back for consideration.

Our Comments

Based on the above judicial precedent, while it may be viewed that for internal allocation of cost, it is not mandatory to maintain agreement/invoices if adequate supporting documentation is maintained on allocation keys along with the certificates from the statutory auditor / certified practitioner wherever feasible. However, considering the history of litigation over the years, the taxpayer should maintain all the documents as required under Rule 10D of Income Tax Rules and OECD Guidelines to avoid any issue under litigation.

Whether SEZ unit is liable to discharge GST under the Reverse Charge Mechanism (RCM) on specified services procured from the Domestic Tariff Area (DTA)?

In the matter of Waree Energies LTD TS-217-AAR(GUJ)-2024-GST

Note

In the case of M/s Portescap India P. Ltd. [TS-16-AAAR(MAH)-2023- GST], the Maharashtra Appellate Authority for Advance Ruling (AAAR) set aside the order of Authority for Advance Ruling (AAR) by holding that SEZ unit (Appellant) procuring renting of immovable property or any other service from SEEPZ, SEZ (SEZ Developer) for carrying out the authorized operations is not required to pay GST under RCM subject to furnishing of LUT or bond as a deemed supplier of such services.

The AAAR observed that “Section 16 (1) of the IGST Act, 2017 will supersede over the Notification issued under Section 5(3) of the IGST Act, 2017, which enumerates the services which attract GST under reverse charge basis” while citing the settled proposition of law that specific provisions made in the Act will have greater legal force than that of a Notification issued under same or any other provisions of the same Act.

Facts

• The applicant, a SEZ unit engaged in solar module manufacturing, filed an advance ruling application to seek clarity on the obligation to pay GST under RCM on services procured from DTA.
• The applicant questioned the applicability of Notification No. 10/2017-Integrated Tax (Rate) and argued that, being a SEZ unit, they are exempt from GST under Rule 5(5) (a) of the SEZ Rules, 2006.
• The applicant further submitted that Rule 30 allows DTA suppliers to clear supplies to SEZ units as zero-rated supplies under Section 16 of the IGST Act, 2017. They further highlighted Notification No. 18/2017-Integrated Tax (Rate), which exempts services imported by SEZ for authorized operations from the whole of IGST.
• Reliance was also placed on Letter F. No. 334/335/2017-TRU dated 18 December 2017, issued in the context of the applicability of RCM on procurement of services by the International Financial Services Centre (IFSC), SEZ. It was clarified that a SEZ unit could procure services that are taxable under RCM without payment of IGST, provided the unit furnishes a Letter of Undertaking (LUT).

Ruling

• While the Gujarat AAR referred to the FAQs on GST, 3rd Edition, dated 15 December 2018, which emphasized that SEZ units are deemed suppliers and hence, liable to discharge GST under RCM, it also considered Notification No. 37/2017-Central Tax that allowed DTA suppliers to supply services to SEZ units/export without payment of GST subject to furnishing of LUT.
• It also found that although the Tax Research Unit (TRU) clarification issued to IFSC was not a Circular, there was no bar in borrowing the rationale thereof.
• Accordingly, it held that the applicant, a SEZ unit, could procure the services, such as legal, sponsorship, etc., for use in authorized operations without payment of IGST, provided they furnish a LUT as specified in Notification No. 37/2017-Central Tax.
• The AAR found that its view was substantiated vide the order of Maharashtra Appellate AAR in the case of M/s Portescap India Pvt. Ltd.

Our Comments

Although the GST regime is set to turn seven in a couple of months, there still remains a debate on the applicability of reverse charge GST to SEZs.

The present advance ruling should help fortify the defense for SEZ taxpayers during assessments and audits under the GST law.

Given that the binding value of advance rulings is restricted to the applicants and jurisdictional authorities therein and the prevailing diverse practices across sectors and tax treatment accorded thereto, it would be worthwhile if clarification is issued by the GST Council and CBIC to conclusively resolve the longstanding ambiguity surrounding this matter.