From The Judiciary

Whether it can be said that profit accrues to a PE in India where the entity has incurred a global net loss?

Nokia Solutions & Networks OY 960-HC-2022(DEL)

Facts

The taxpayer is a foreign company incorporated in Finland. The company is engaged in the supply of telecom equipment to Indian telecom operators. It was alleged by the Revenue that the taxpayer had a Permanent Establishment (PE) in India, and accordingly, part of the gross profit of the taxpayer should be attributed to such PE in India.

The taxpayer was of the contention that primarily it does not have a PE in India, and even in case it is held that it has a PE, the taxpayer had incurred a net loss at the global level, and thus there could not be any profits which could be attributed to such theoretical PE in India.

The Income Tax Appellate Authority (ITAT) accepted the taxpayer’s contention. Aggrieved by this, the Revenue further appealed to the High Court.

Held

The High Court agreed with the ITAT’s finding and quoting the ITAT’s decision, the High Court held that there would not arise any question of law in this regard.

Also, based on a plain reading of Article 7 of the India–Finland Double Taxation Avoidance Agreement (DTAA), the issue of taxability would arise only if profits accrue to the taxpayer and that too only to the extent they can be attributed to its PE in India. Accordingly, the High Court dismissed the appeal.

Our Comments

The Delhi High Court has opined that only if profits accrue to the taxpayer, and that too only to the extent, then they can be attributed to its PE in India shall it be taxable in India.

Whether granting exclusive rights for broadcasting a channel be regarded as copyright Royalty?

BBC World Distribution Limited ITA Nos. 1907/Del/2011, 610/ Del/2011 & 5415/Del/2011

Facts

BBC World News Ltd (BBC World) granted a non-exclusive global right to BBC World Distribution Limited (the taxpayer) to distribute the BBC channel.

The taxpayer then entered into an agreement with BBC World India Pvt. Ltd. (BBC India) to distribute the channel to cable operators, DTH operators, hotels, institutions, etc., in India.

Post AY 2008-09, there was a change in the Ministry of Information and Broadcasting Guidelines, which mandatorily required an Indian Company to have exclusive distribution rights in a channel uplinked from abroad. In line with the new guidelines, the taxpayer entered into an agreement with BBC India under which exclusive rights were granted to distribute the channel in India. BBC India now directly entered into a contract with subscribers on its own, and the entire revenue from the subscription was received by BBC India, which was offered to tax in India.

It was the Revenue’s contention that while granting rights to distribute BBC Channel in India, the taxpayer has transferred the right to use copyright to BBC India. The Revenue also contented that BBC India can be considered a taxpayer’s PE in India as it is authorized to conclude contracts on behalf of the taxpayer.

Held

The ITAT ruled that the payment from BBC India to the taxpayer could neither be termed as Royalty under Section 9(1) (vi) of the ITA nor under the India-UK DTAA.

It was observed that the taxpayer does not have the right to the BBC Channel as per its agreement with BBC World. Furthermore, the agreement is only for the re-transmission or broadcasting of a program that is different from the transfer of copyright. The ITAT rejected Revenue’s submission on the taxability of distribution revenue as equipment or process Royalty as preposterous in the absence of any finding by lower authorities. Furthermore, as the revenue was already being offered to tax by BBC India, no part of such income can again be attributed to the taxpayer notionally and be taxed in India. On the issue of taxpayer constituting PE in India, the ITAT held that it is purely academic in nature as the entire income has been offered to tax by BBC India, and thus, the question of profit attribution to PE in India does not arise.

Our Comments

The Delhi Tribunal explains that the distribution agreement, which is confined to broadcasting rights, is not copyright and thus does not fall under Royalty under Section 9(1)(vii) of ITA.

The time limit for passing the Transfer Pricing Order (TP Order) - 60 days’ prior to’ the last day on which the period of limitation expires

Verizon Data Services India Pvt Ltd. IT(TP)A No.37/Chny/2021

Facts

For AY 2016-17, the taxpayer carried out certain international transactions, which were referred to the Transfer Pricing Officer (TPO). The relevant dates of Assessing Officer (AO) and TPO orders in the said case were as follows:

Under ITA, the AO can make a reference to the TPO in order to determine whether international transactions carried out by the taxpayer are at arm’s length. As per Section 92CA(3A) of the Act, TP Order ‘may’ be passed at any time before 60 days prior to the date on which the period of limitation as per Section 153 of ITA for passing the assessment order expires. Thus, the limitation date for the TPO to pass TP Order is linked with the limitation date for AO to pass the assessment order.

In the instant case, the limitation for AO to pass the assessment order for AY 2016-17 was 21 months (further extended by 12 months because of reference to TPO) from the end of AY i.e. 31 December 2019. The question before the Tribunal was whether the TP Order passed on 1 November 2019 was valid and in accordance with the 60 days time limit prescribed under Section 92CA(3A) of ITA.

Held by ITAT

ITAT explained that in terms of Section 92CA(3A), TPO has to pass its order 60 days prior to the last day on which the period of limitation (referred to in Section 153 for making assessment) expires. Relying on the Single Bench Madras High Court decision in Pfizer’s⁹ case, wherein it was held that the assessment was to be framed on or before 31 December 2019. Furthermore, as per Section 92CA(3A), the period of 60 days prior thereto would run till 1 November 2019 and any date prior thereto would mean 31 October 2019 or before. Since the order was passed on 1 November 2019, the same was held to be barred by limitation, which eventually laid down the principle that the period of 60 days needs to be calculated excluding the last date because of the use of the words’ prior to’ and that the TPO needs to pass TP Order before the expiry of the period of limitation of 60 days. Furthermore, ITAT rejected DRP’s finding that the language used in Section 92CA (3A) of the Act is “may” in contrast to “shall” and held that TPO order was barred by limitation and the AO was not required to pass the draft AO order thereto DRP would not have any jurisdiction to adjudicate the matter. Accordingly, TPO’s order dated 1 November 2019 was barred by limitation and the subsequent final order from AO was quashed.

Our Comments

The ruling has emphasized the importance of evaluating the basic premises of question of law in each case. It would also be interesting to watch whether the tax department would seek to challenge the High Court judgment in Pfizer’s case before the Apex Court.

Basis the message emanating from the above ruling, to calculate the limitation date for TPO to pass the TP order for the relevant year, a period of 60 days needs to be calculated, excluding the last date because of the use of the words’ prior to’ thereby obliging the TPO to pass TP Order before the expiry of the 60^th day.

Can Fixed Asset Turnover Ratio be an indicator of capacity utilization of the taxpayer?

Witzenmann India Pvt Ltd. ITA No. 2022/Kol/2021

Facts

The taxpayer is engaged in the distribution (through its unit in Kolkata) and assembling activity (unit in Chennai, which is in its first year of operations). International transactions were benchmarked using Transactional Net Margin Method (TNMM) and adjustments were made towards capacity utilization and working capital to eliminate the material differences for the purpose of comparability.

Outcome of TPO’s order

TPO disregarded the capacity adjustment made by the taxpayer and applied the Fixed Asset Turnover Ratio (FATR) by keeping turnover in the denominator and fixed assets in the numerator. TPO contended that the FATR of the taxpayer is at an optimum level as compared to the comparable companies. Further, the TPO disregarded the working capital adjustment made by the taxpayer without providing any reasons for the same.

Outcome of CIT(A)’s order

Commissioner of Income-tax (Appeals) (CIT(A)) upheld the order of the TPO and held that the entire machinery of the taxpayer was put to use and a full claim of depreciation was made. CIT(A) also linked the capacity utilization levels of the taxpayer with the price charged for the products.

Held by the ITAT

ITAT relying on Rule 10B of the Incometax Rules, 1962 (Rules), Institute of Chartered Accountants of India (ICAI) Guidance Note on report u/s 92E of ITA and Organisation for Economic Co-Operation and Development (OECD) Transfer Pricing Guidelines held that reliable Arm’s Length Price (ALP) be applied basis reliable and accurate adjustments depending on availability of reliable and accurate information. ITAT observed that the taxpayer had utilized only 22% of its installed operating capacity viz-a-viz 71% average capacity utilized by the comparable companies. Capacity utilization has a co-relation with the company’s profits, leading to under-absorption of fixed cost, especially with TNMM as Most Appropriate Method (MAM). Furthermore, ITAT held that FATR is not an indicator of capacity utilization.

ITAT also granted the application of working capital adjustment basis the methodology adopted by the taxpayer. The ITAT also directed the TPO to exercise powers under Section 133(6) of ITA to call for the requisite information on carrying out capacity adjustment and working capital adjustment.

Our Comments

The comparability of the companies cannot be justified only basis of the nature of business, due consideration should also be given to the economic factors impacting the profitability or prices of the products/services. In the instant case, the taxpayer furnished the details relating to licensed capacity, installed capacity, and production details in the audited financial statements. Also, detailed working relating to financial adjustments undertaken to eliminate material differences towards capacity utilization and working capital was furnished at the time of assessment, laying down the significance of maintaining robust documentation to substantiate comparability adjustments.

Whether refund of GST paid on notice pay recovery could be claimed pursuant to CBIC clarification?

Manappuram Finance Ltd vs. Assistant Commissioner, Central Tax and Excise, Thrissur TS-648-HC(KER)-2022-GST

Facts

• Manappuram Finance Ltd. (petitioner) had claimed a refund of the GST paid on notice pay recovered from its former employees, pursuant to CBIC Circular No. 178/10/2022- GST dated 3 August 2022.
• However, the Adjudicating Authority rejected the same, which the First Appellate Authority further upheld.
• Hence, the petitioner challenged the order-in-appeal before the Kerala High Court under Article 226 of the Constitution in the absence GST Appellate Tribunal.

Ruling

• The High Court observed that the CBIC Circular specifically clarifies that the amount of money received by the petitioner as notice pay from the erstwhile employees is not a taxable transaction for the purposes of the GST laws.
• It accepted petitioner’s stand that the decisions of the Supreme Court in Navnit Lal C. Javeri vs. K.K. Sen¹⁰ and K.P. Varghese vs. Income Tax Officer, Ernakulam and another¹¹ are binding precedents for the proposition that Circulars are binding on the Department and no officer can take a view contrary to stipulations contained in such Circulars.
• As per the High Court, the fact that the Circular was issued only after the issuance of an order of the First Appellate Authority is no reason to hold that the petitioner is not entitled to the benefits of the clarification.
• In this context, the High Court relied on the law laid down in Suchitra Components Limited vs. Commissioner of Central Excise¹² that the provisions of a Circular will have to be deemed to apply retrospectively.
• Accordingly, the writ petition was allowed while rejecting Revenue’s contention that the petitioner had an effective alternative remedy before the GST Appellate Tribunal and it could wait for the constitution.
• The Court quipped, “The fact that the period of limitation will start to run only from the date of the constitution of the Appellate Tribunal is no solace to the petitioner.”
• In view of the above, the Court restored the refund applications before the Adjudicating Authority with a direction to reconsider the matter having regard to the findings in this judgment.

Our Comments

The industry has been seeking refunds of GST paid on notice pay recoveries pursuant to the CBIC Circular. This judgment should help substantiate their claims for the past period, given the retrospective applicability of the clarification.

Splitting up or reconstruction conditions to be examined only in the formative year for availing the deduction under Section 10AA

Infosys Ltd TS-986-ITAT-2022(Bang)

The Bangalore Tribunal has recently upheld that the tests of splitting up or reconstruction of a business already in existence as per Section 10AA of ITA have to be applied only at the time of formation of a unit. It held that the condition of splitting up and reconstruction cannot be examined once it stands satisfied and accepted by the revenue authorities in the initial years.

In the case under consideration, as the undertaking had satisfied and duly fulfilled the requirements of Section 10AA of ITA and there was no factual finding with respect to its formation by splitting up or reconstruction of an existing business, the deduction claim was accepted.

Our Comments

The decision of the Tribunal firms up the existing prevailing position that the test of splitting up or reconstruction has to be examined only in the formative years and not subsequently. This interpretation of the Tribunal would be of assistance for new provisions such as Section 115BAB (concessional tax regime for new manufacturing companies), wherein there is a requirement that the business should not be formed by splitting up or reconstruction of a business already in existence.

Buy-back of shares pursuant to family arrangement does not amount to transfer for the purpose of capital gain tax

Sujan Azad Parikh V. DCIT [2022] 145 taxmann.com 167 (Mumbai - Trib.)

The Mumbai Tribunal, in a recent decision, has upheld non-taxability on shares transferred under the buy-back route under the family arrangement.

The taxpayer and other family members held shares in a business concern. Due to a dispute in the functioning of the family-owned company and other group concerns, in order to restore peace and harmony in the family, all family members agreed to a family arrangement by filing a petition before Company Law Board (CLB). As per the CLB’s direction, the taxpayer transferred said shares through buy-back under a family arrangement. The taxpayer did not treat the same as a transfer to avoid the liability of capital gains tax. While this position was not accepted at lower levels, the Tribunal held in favor of the taxpayer basis the settled position laid down in several decisions that transfer made under a family arrangement to settle disputes is not liable for capital gains taxation.

Our Comments

It has been a settled position that transfers made under family arrangement do not tantamount to ‘transfer’ within the meaning of Section 2(47) of the Act for capital gains tax to apply. In cases where corporates are involved in the arrangement, the taxability has been litigious considering corporate entities have separate legal existence and are not part of a family. There have been decisions, including that of the jurisdictional Bombay High Court in case of B. A Mohota wherein it has held transfers involving corporate entities to be taxable transfers.

Interestingly, the said decision has been distinguished by the Tribunal on the ground that in the said case, the taxability under consideration was of the company, whereas in the present case, it is of the family member. This is an interesting proposition and it would be worthwhile to see the view other courts adopt, considering the Bombay High Court’s ruling.

Ministry of Corporate Affairs will be launching the second set of Company Forms covering 56 Forms on the MCA21 V3 portal

The Ministry of Corporate Affairs (MCA) upgraded the MCA portal from Version 2 to Version 3 (V3) in March 2022 and all the Company and LLP E-form was planned to be migrated to this new V3 portal in a phased manner.

In Version 2, forms were required to be filled and uploaded in the portal, while in V3, the forms are to be filled online. This enables user convenience, including saving a half-filled form and filing it later. Also, in Version 3, there is a personalized “My Application” feature that allows one to view all the forms filed by them to date along with the status of the forms, such as pending for DSC upload, Under Processing, Pay fees, Resubmission, etc.

Presently, only LLP Forms and 9 Company forms (DIR3-KYC, DIR3-KYC web, CHG-1,4,6,8,9, DPT-3, DPT-4) are available in V3 portal of MCA for filing purposes. However, MCA is now launching a second set of Company Forms covering 56 forms in two different lots on MCA21 V3 portal. 10 out of 56 forms will be launched on 9 January 2023 and the remaining 46 forms on 23 January 2022.

Following forms will be rolled-out on 9 January 2023: SPICe+ PART A, SPICe+ PART B, RUN, AGILE PRO-S, INC-33, INC- 34, INC-13, INC-31, INC-9 and URC-1. The list of 46 forms that will be rolled out on 23 January 2023 can be checked here, https://bit.ly/3Inh4N9

Our Comments

Aided by artificial intelligence and machine learning, the MCA V3 portal is envisioned to transform the corporate regulatory environment in India. It will help the Ministry with in-depth scrutiny of filings, create a compliance management system to identify noncompliant companies and LLPs, and undertake e-adjudication of various regulatory proceedings. However, the new V3 portal did face a number of technical glitches and issues, which the MCA is resolving in consultation with its stakeholders. This planned phasewise migration of all Company Forms to the new V3 portal will further facilitate the stakeholders and ensure a smooth transition and implementation.