From The Judiciary

Whether payment made for Transponder fees to foreign vendors will be taxable as royalty in India?

M/s Viacom 18 Media Private Limited Vs The CIT(A) I.T.A. No. 523,1068,1072,1063, 1064/Mum/2021

Facts

The taxpayer is a company incorporated in India and during the relevant period was engaged in broadcasting television channels from India. In order to provide such services, the taxpayer availed satellite signal reception and transmission facility (i.e., transponder facility) from non-resident entities and paid a service fee to them.

At the time of payment, the taxpayer approached the Assessing Officer (AO) to determine whether such service fee is taxable in India or not. The AO adopted a view that the payment made by the taxpayer to foreign satellite companies for utilizing its transponder facility to showcase its channel in India would be taxable in India on the footing that payment of such fees constitutes ‘Royalty’ as defined in Section 9(1)(vi) of the Act for being the use of ‘process’ (i.e., transponder) and directed taxpayer to withhold tax on such payments.

On appeal by the taxpayer, the CIT(A) held that the taxpayer was not liable to deduct tax at source on the payments made as it did not qualify as Royalty. Aggrieved by the order, the Revenue has raised the aforesaid grounds before the Tribunal.

Held

The Tribunal made a distinction between transfer of rights in respect of property and transfer of rights in the property. It followed suit of earlier judicial precedents, which have held that no amendment to the Act, whether retrospective or prospective can be read in a manner so as to the extent in operation to the terms of an international treaty. The Tribunal upheld the order of CIT(A), citing that CIT(A) has followed binding precedents of jurisdictional High Court (HC) in the case of New Sports Broadcast Pvt Ltd, wherein it is held that transponder charges are not in the nature of Royalty income in the hands of recipients despite the amendment to Section 9(1) (vi) of the Act.

Our Comments

The Mumbai Tribunal has re-confirmed the well-settled principle that unilateral amendments under the Act would not extend to the definition of ‘Royalty’ under existing Double Taxation Avoidance Agreements (DTAA). Thus, the transponder fees were not qualified as Royalty.

Whether the installation of IVRS Equipment and AMC cost can be construed as Fees for Technical services (FTS)?

M/s Wipro Ltd Vs DCIT. ITA No.2681/Bang/2018

Facts

The taxpayer is an Indian company engaged in the business of providing system integration, support and maintenance services and selling products of its head office. During the year under consideration, the taxpayer paid certain charges to non-resident parties for installation of equipment, AMC charges and purchase of tool kit inspection charges, etc. and claimed the same as deduction while filing the return of income.

However, according to the AO these payments fall under the category of FTS and hence disallowed these amounts paid by the taxpayer for default in deducting tax at source under Section 195.

The CIT(A) confirmed the order of the AO. Aggrieved by the order, the taxpayer filed an appeal before the Bangalore tribunal.

Held

After considering the data on record, the Bangalore tribunal observed that for those payments to fall under fees for technical services as per DTAA of India - Singapore, the service providers should have made available the technical knowledge, experience, skill, know-how etc. to the taxpayer.

The tribunal relied on ruling of the Karanataka High Court in De Beers India Minerals P. Ltd to hold that the definition under DTAA would override the definition under Income-tax Act.

Furthermore, Tribunal stated that these payments constitute business income and in the absence of PE of the vendors in India, these payments are not chargeable to tax in India requiring deduction of tax at source u/s 195.

Therefore payments made to Singaporean entities for various services did not constitute fees for technical services under the India- Singapore DTAA as no technical knowledge was made available.

Our Comments

The Bangalore tribunal has appraised the fact that the "make available test" is a pre-requisite for qualification of a transaction to be FTS where the definition of FTS is restrictive. It is pertinent to note that while there are a number of judicial precedents in favor of the taxpayer in a similar scenario, the "make available test" remains situationspecific.

Should Royalty be computed on the total turnover of the taxpayer or only on profit-making products/ services?

Ford Global Technologies LLC [ITA No. 3095/Chny/2019]

Facts

The taxpayer owns and develops Intellectual Property (IP) rights by evaluating new inventions developing intellectual plans for critical technologies. The company manages key aspects of intellectual property for M/s. Ford Motor Company, USA and its brands and charges royalty for the aforementioned services.

The taxpayer entered into a license agreement with its Associated Enterprises (AE) viz., M/s. Ford India Private Limited (Ford India) and has charged Royalty for the IP services. As per the license agreement, minimum Royalty of 2.5% (if Ford India’s financial showed loss) or minimum Royalty of 5% (if Ford India’s financial showed profit) on sale of vehicles assembled in India was agreed (i.e., a turnover base for computing Royalty).

Ford India paid Royalty only on those sales models from which it earned profit and excluded loss-making sales models for the purpose of Royalty.

After considering relevant submissions of the taxpayer (wherein the sales for the models, which had reported losses were excluded from the turnover base on which Royalty was computed), made a Transfer Pricing adjustment considering total sales declared in the financial statement.

The CIT(A) concurred with the contentions of the taxpayer that if sales from models with losses were also to be considered in the ‘turnover base’ for Royalty computation, the cost associated with such models should also be excluded for arriving at the total net sales (i.e., turnover base) and accordingly, CIT(A) deleted Transfer Pricing addition considering that under the revised turnover base the royalty income receivable by the taxpayer was lower than actually booked.

Held by the ITAT

The Income Tax Appellate Tribunal (ITAT) held that Ford India had to pay Royalty of 2.5% on the sales of vehicles assembled in India by Ford India, including the revenue from the sales model from which Ford India had incurred a loss.

Furthermore, the ITAT held that once the gross revenue from all the sales models was considered, the related cost associated with all models (including loss-making models) were also to be considered while computing the net sales on which, ideally, Royalty is to be charged.

ITAT observed that the AO’s working did not reflect consideration of costs with respect to sales for models where a loss was reported and the fact that the taxpayer’s reconciliation statement was not furnished before the AO, the matter was remitted back to the AO for further verification.

Our Comments

The transaction pertaining to Royalty is litigative in nature and has been under detailed Transfer Pricing scrutiny where the taxpayers need to demonstrate the benefit received with respect to the payment of Royalty.

Furthermore, the importance and need of documentation with respect to the base on which Royalty is computed (i.e., net sales) is further enunciated from the said ruling.

Whether Berry Ratio can be used for manufacturers performing entrepreneurial functions?

Vaibhav Global Limited [ITA No. 97/JP/2021]

Facts

The taxpayer is engaged in the business of manufacturing and export of gold jewelry studded with precious and semiprecious stones.

The taxpayer has entered into international transactions pertaining to sale and purchase of goods to/ from AEs and benchmarked the same by using Cost Plus Method as the Most Appropriate Method (MAM) and selected Gross Profit Margin/Cost of Production (GPM/COP) as the Profit Level Indicator (PLI).

The taxpayer, with respect to its functional and risk profile, is characterized as a routine manufacturer performing all the entrepreneurial functions.

However, the Transfer Pricing Officer (TPO) during the course of assessment proceedings held that since the taxpayer is purchasing from related parties as well as selling to related parties, both cost and revenue sides are tainted and hence, GP/COP cannot be applied as PLI and determined the arm’s length price by using the ‘Berry Ratio’ with Operating Profit/Value Added Expenses (OP/VAE) as the PLI. The aforesaid approach was upheld by the Dispute Resolution Panel (DRP) as well.

Held by the ITAT

The ITAT drew reference to the Organization for Economic Co-operation and Development (OECD) Transfer Pricing Guidelines and UN Guidelines, wherein the applicability and use of ‘Berry Ratio’ is discussed.

The ITAT also took recourse to various judicial precedents wherein it is mentioned that the Function, Asses and Risk (FAR) analysis needs to be undertaken with respect to the applicability of the ‘Berry Ratio.’ Furthermore, the ‘Berry Ratio’ is effectively applied only in the case of stripped-down distributors, which have no financial exposure and risk in respect of goods so distributed by them.

The ITAT held that on perusal of the FAR profile of the taxpayer, it is evident that the taxpayer is a routine manufacturer performing all the entrepreneurial functions and assuming significant risks.

The ITAT upheld the use of the MAM and the PLI, which was adopted by the taxpayer and directed the Transfer Pricing adjustment to be deleted.

Our Comments

The above ruling further enunciates the importance of a robust and correct functional and risk analysis with respect to the inter-company transactions. The ITAT has rightly addressed the issue with respect to the incorrect use of ‘Berry Ratio’ as a PLI in the case of a routine manufacturer who performs all the entrepreneurial functions.

Whether SEZ unit engaged in Zerorated supply, can claim a refund of unutilized ITC, including ITC distributed by an ISD?

M/S. IPCA Laboratories Ltd. Versus Commissioner [ 2022 (2) TMI 947]

Facts and Contentions

• The writ applicant is a pharmaceutical company operating as a Special Economic Zone (SEZ) unit at the Kandla SEZ.
• It is engaged in the export of goods (Zero-rated supply) under the Letter of Undertaking (LUT).
• For the FY2017-18, the applicant has accumulated utilized ITC, relating to inward supplies, to the tune of INR 2.166 million, including credit distributed by an ISD of INR 1.867 million.
• Accordingly, the applicant had filed a refund claim application, which was later rejected by the department through a Show Cause Notice (SCN), alleging the following:
  1. Supply of goods and/or services to a SEZ unit is Zero-rated, accordingly, not eligible for refund claim.
  2. The refund application cannot be processed under any category of refund under circular no. 17/17/2017-GST dated 15 November 2017.
  3. SEZ unit is not supposed to pay any tax on the inward supply and thus, there would be no question of ITC.
  4. In the absence of any circular/ notification/relevant guidelines to process GST refund claim applications of units related to SEZ, the office is unable to process refund applications.

Ruling

• The applicant is entitled to a refund because ITC has been received from an ISD and there is no other specific supplier who can claim the refund under the provisions of the CGST Act and Rules on the supplies made to a SEZ unit.
• While delivering this ruling, Hon’ble HC has also relied upon the decision given by the Gujarat HC in the case of M/s. Britannia Industries Limited⁶.

Our Comments

The case can be relied on by the SEZ units in the matters wherein the refund on account of ISD has been held/ rejected by the department.

However, a clarity in law is still required on the eligibility of SEZ units to apply for a refund where ITC is availed on the direct supplies made to them and tax component is paid to the suppliers.

Whether the petitioner can file an appeal manually?

Ali Cotton Mill vs. Appellate Joint Commissioner (ST) [ 2022 (56) GSTL 270 (AP) ]

Facts and Contentions

• The petitioner has received assessment orders for the tax periods September 2017 to April 2018.
• Upon which, the petitioner attempted to file the appeal before appellate authority under Andhra Pradesh (AP) GST Act electronically. Due to certain technical glitches, the department did not receive the same.
• The petitioner then filed the said appeal manually.
• Thereafter, the respondent has rejected the appeal on the sole ground that APGST Rules mandatorily require filing an appeal electronically.
• The respondent also states that, since the Chief Commissioner has not given any instructions to accept the manual filing of appeals, the petitioner cannot file the same manually.
• The respondent further argued that as many as three check memos were issued to the petitioner to comply with certain defects in filing an appeal electronically. However, without first rectifying these defects and electronically uploading the appeal, the appellant has resorted to the writ petition, which is untenable.

Ruling

The court has observed that:

• An appeal under Section 107(1) of the APGST Act shall be filed along with Form GST APL-01 and the relevant documents ‘either electronically or otherwise as may be notified by the Chief Commissioner’.
• Chief Commissioner specifies one particular mode of filing, the concerned appellant can choose to file the appeal either electronically or otherwise, i.e., manually.
• The interpretation of the respondent is contrary to the purpose of Rule 108(1) of APGST Rules.
• All the check memos were issued only after filing the appeal manually. Thereafter, the appellate authority has rejected the appeal not on the merits but on the sole ground as we mentioned supra.
• Held that, since the rejection order is contrary to Rule 108(1) of APGST Rules, the same is liable to be set aside. Petition allowed.

Our Comments

This case sets a precedent that the manual application can be entertained if there are any technical glitches in the system while filing any application electronically.

Practically, many of the state GST authorities e.g., Maharashtra, have developed/ are in the development of their own system of admitting an appeal. However, sometimes due to technical glitches, an appeal cannot be filed through the electronic mode prescribed.

Chandigarh ITAT: Balance Sheet on valuation date sufficient even if subsequently audited without any difference

Electra Paper and Board Pvt. Ltd [TS-58-ITAT-2022(CHANDI)]

A private limited company (assessee) allotted 31,950 shares of INR 10 each at a premium of INR 10, aggregating to INR 20 per share to family members and related group companies on 31 March 2016. The assessee had determined the Fair Market value (FMV) of shares by taking an average of NAVs on 31 March 2015 and 31 March 2016.

However, as the financials as of 31 March 2016 were not audited, the AO considered FMV of INR 17.32 based on the last audited Balance Sheet as of 31 March 2015 and made the addition for premium in excess of the FMV so computed under the provisions of Section 56(2)(viib) of the Act. The CIT(A) upheld the AO’s order.

The ITAT, while deciding the matter in favor of the assessee, made the following observations:

• Referring to the definition of “Balance Sheet” for the purpose of valuation of shares on issuance, two mandatory requirements of the valuation rules are:
  1. Balance sheet should be drawn on date of valuation; and
  2. The said Balance Sheet should be duly audited by the Auditor and where the Balance Sheet is not drawn on date of valuation, the Balance Sheet drawn on a date immediately preceding the date of valuation approved and adopted in AGM should be considered

• It is noted that even though the Balance Sheet was unaudited after the audit, apparently, there was no material change in the Balance Sheet. This provided to abide by the definition of ‘Balance Sheet’ in spirit and purpose.
• Thus ITAT ruled in favor of the assessee and deleted the addition made by AO under Section 56(2) (viib) on the basis that sufficient compliance with the valuation rule is made.

Our Comments

This is a welcome decision that has proceeded basis the spirit and purpose of the requirement of the provision and not by its technical reading. This would be relevant for the other valuation provisions as well where there is a requirement for audited financials. For instance, as per the provisions of Section 56(2)(x) r.w. Rule 11UA, there is a requirement of working out fair market valuation basis the audited financials as on the valuation date. This exercise needs to be carried out even for the underlying equity investments in the entity. In such instances, auditing the financials as on a particular date creates practical challenges. Such spirit-driven interpretations would certainly aid in addressing the practical challenges faced.

Securities and Exchange Board of India (SEBI)

SEBI (Listing Obligations and Disclosure Requirements) (Amendment) Regulations, 2022

SEBI vide its notification dated 24 January 2022, introduced SEBI (Listing Obligations and Disclosure Requirements (LODR)) (Amendment) Regulations, 2022, which brings the below important amendments in the SEBI (LODR) Regulations 2015:

1. Amendment to Regulation 17(1) (C) pursuant to which all listed Companies are now required to take the approval of shareholders for appointment of a person as a manager of the company at the next general meeting or within a time period of three months from the date of appointment, whichever is earlier.
   Furthermore, the appointment or a re-appointment of a person, including as a managing director or a wholetime director or a manager, who was earlier rejected by the shareholders at a general meeting, shall be done only with the prior approval of the shareholders and the explanatory statement annexed to the notice shall contain a detailed explanation and justification by the Nomination and Remuneration Committee and the Board of directors for recommending such a person for appointment or reappointment.
2. Amendment to Regulation 32, which now requires the listed entity who had appointed a monitoring agency to monitor the utilization of proceeds of a public or rights issue, to place the monitoring report of such agency before the audit committee on a quarterly basis which was earlier required to be placed on an annual basis.
3. Amendment to Regulation 40 now mandates listed companies to effect transmission or transposition of securities held in physical form only in dematerialized form.

Our Comments

As per the Companies Act, 2013, the Board cannot continue the appointment of an additional director who fails to get elected as a director at a general meeting, however, this does not explicitly prohibit the Board from re-appointing such person as its MD or WTD or Manager. SEBI has tried to fix the loophole with respect to the appointments by bringing this new amendment. Also, SEBI has now standardized the requirement for effecting the transfer as well as transmission or transposition of securities in dematerialized form only. This shall help SEBI reduce the securities held in physical mode and encourage the practice of corporate governance in the corporates.

Separation of role of Chairperson and MD/CEO

In a meeting held on 15 February 2022, SEBI has inter-alia decided to make the requirement of separation of the role of Chairperson and MD/CEO of listed companies optional. Prior to this amendment, this requirement was supposed to become applicable from 1 April 2022 to top 500 Companies. However, citing the unsatisfactory level of compliance achieved so far and also representations from industry bodies and corporates expressing various compelling reasons, difficulties and challenges for not being able to comply with this regulatory mandate, SEBI has now decided to make this requirement applicable to the listed entities on a “voluntary basis.”

Our Comments

The need to separate MD and CEO roles is not a compulsion in western economies. Also, India's existing corporate governance framework is very strong and day by day, enforcement is also becoming stronger. Hence, the separation of MD and Chairman positions was not a very big corporate governance issue. Making it voluntary reflects that government is adaptive to changes suggested by Industry.

Ministry of Corporate Affairs (MCA)

The Ministry of Corporate Affairs (MCA) vide a series of notifications dated 11 February 2022, has notified the following:

• Section 1 to 29 of the Limited Liability Partnership (Amendment) Act, 2021 (Amendment Act) amending the Limited Liability Partnership Act, 2008 (LLP Act)
• Limited Liability Partnership (Amendment) Rules, 2022
• Delegation of powers vested in Central Government under Section 17 to Regional Director
• Appointment of Registrar of Companies (RoC) as the Adjudicating Officers for the purpose of the LLP Act
• Sections 90, 164, 165, 167, 206(5), 207(3), 252 and 439 of the Companies Act, 2013 have been made applicable to the LLPs

All of the above notifications shall come into effect from 1 April 2022 and the provisions of the Companies Act 2013 shall become applicable w.e.f the date of notification.

Key highlights of the notifications brought in by MCA are discussed below:

Our Comments

This plethora of amendments brought in by the government to the LLP regime in India has been appreciated by the Corporates as one more step towards bringing ease of doing business. Although certain compliances have increased for the LLPs, introducing the concept of small LLPs and startup LLPs and reducing the penalties has made LLP a more viable option for the new business in India. The new compliances shall bring in more transparency and visibility to the LLP structure.