From The Judiciary

In the absence of an FTS clause in India-UAE DTAA, can fees paid for app development, webhosting services, marketing and sales support qualify as business income?

Campus Eai India Pvt. Ltd. TS-631-ITAT-2023(DEL)

Facts

The assessee is an entity incorporated in India, engaged in the business of computer software and it has availed app development, web-hosting services, and marketing and sales support from foreign entities. During the assessment proceedings, the AO observed that the assessee had made various remittances to multiple foreign entities, and no TDS was deducted from such payments.

The AO held that such remittances by the assessee are in the nature of Royalty and Fees for Technical Services (FTS), and accordingly, taxes should have been withheld. Aggrieved by the AO’s order, the assessee carried the matter in appeal before the CIT(A) wherein CIT(A) held that the above payments are not chargeable to tax in India and hence the action of the AO addition to assessee’s income on account of non-deduction of TDS on such payments is erroneous.

Pursuant to the above, the said appeal was filed with the Tribunal.

Held

The Delhi Tribunal upheld CIT(A)’s order and disregarded the AO’s arguments to treat remittances made by the assessee as Royalty and FTS.

The Tribunal concluded that the said payments cannot be brought under the ambit of FTS in the absence of a specific clause relating to FTS in the India-UAE tax treaty. Furthermore, it was observed that in the absence of a specific clause in the treaty dealing with a particular item of income, the payment should not be regarded as residuary income but as business income. However, in the present case, the said income shall not be chargeable to tax in India in the absence of a Permanent Establishment (PE) of the foreign entities in India.

Our Comments

The Delhi ITAT held that remittance for app development, web-hosting services, marketing and sales support in India- UAE DTAA is not FTS as the same will be considered as business income and it will not be taxable in India as per Article 7 of the said DTAA in the absence of a PE in India.

Is TRC issued by the competent Authority of the respective country sufficient to invoke tax treaty benefit?

Veg ‘N’ Table TS-657-ITAT-2023(DEL)

Facts

The assessee operates as an investment holding company and is a tax resident of Mauritius, holding a valid and subsisting Tax Residency Certificate (TRC) for the assessment year 2018-2019. During this period, it accrued long-term capital gains through the sale of specific shares of an Indian entity acquired prior to 1 April 2017. The assessee filed its return of income, claiming exemption of long-term capital gains under Article 13(4) of the India- Mauritius Tax Treaty. The assessee contended that these gains were exempt from taxation in India.

The case was selected for scrutiny, and the AO denied the assessee’s contentions on exemption claimed under Article 13(4) of the India- Mauritius Tax Treaty, contending that the assessee, characterized as a conduit entity, set up for claiming tax treaty benefits for avoiding tax.

Furthermore, the AO alleged that the assessee is a conduit entity set up in Mauritius only to avail treaty benefits and to avoid tax.

Aggrieved by the AO contentions, the assessee took the matter before the Income Tax Appellate Tribunal (ITAT).

Held

In the course of the appeal, the ITAT dismissed the contentions made by the AO and ruled favorably for the assessee. The ITAT highlighted the established legal precedent affirming the sufficiency of TRC issued by the competent authority of a specific country for the purpose of asserting treaty benefits. This stance found support in Circular No. 789 of 2000, a seminal decision by the Supreme Court in UOI v. Azadi Bachao Andolan, and a recent judgment rendered by the distinguished Delhi High Court in Blackstone Capital Partners (Singapore) VI FDI Three Pte. Ltd. v. ACIT.

Addressing the allegations against the assessee, namely, being a conduit entity lacking commercial justification and engaging in a transaction construed as a stratagem for tax avoidance, the ITAT scrutinized these assertions and noted the absence of substantiating evidence. Consequently, in the absence of compelling evidence, the ITAT withheld endorsement of the tax authorities' proposition pertaining to tax avoidance.

Moreover, the ITAT observed the conspicuous non-invocation of legal provisions such as the General Antiavoidance Rule (GAAR) under the Income-tax Act, 1961 (the Act) and the Limitation on Benefits (LOB) clause pursuant to Article 27A of the treaty by the tax authorities. This strategic omission led the ITAT to infer an implicit acknowledgment by the tax authorities, signifying their acceptance that the transaction was conducted in good faith and, thus, affirming the irrevocability of the benefits accorded by the treaty.

Our Comments

This landmark judgment highlights the critical role of a valid TRC in providing substantial evidence to support the claim for tax treaty benefits in India. It underscores the importance of securing and recognizing a TRC as a key element in establishing a taxpayer's eligibility for accessing advantages outlined in tax treaties.

The AO exceeded jurisdiction under Section 92CA (4) of the Income-tax Act

SAC Finance Company Limited TS-665-ITAT-2023(DEL)-TP

Facts

SAC Finance Company Limited (SAC) is a Hong-Kong based company. SAC acquired 888,287 shares and CCPS 151,525 at a cost of USD 15,674,058 from an Indian company, Orbgen Technologies Private Limited (Orbgen). These shares were subsequently sold to its wholly owned subsidiary – Wormhole Technology (Singapore) Private Limited (Wormhole), at the same price as the purchase price due to paucity of time.

The Transfer Pricing Officer: The ROI was selected for assessment proceedings and was also referred by the AO to the Transfer Pricing Officer (TPO), who accepted the transaction value and passed the order without making any negative inference with respect to the arm’s length character of transactions.

Dispute Resolution Panel: DRP directed the AO to verify that the entire value of Wormhole is not relatable to its investment in Orbgen, and accepted the cost of acquisition of the assessee, and directed the AO to accept the same for capital gain computation.

Assessing officer: AO rejected the Fair Market Value (FMV) determined by the assessee on the Discounted Cash Flow (DCF) method supported by the valuation report obtained from CA and arbitrarily made calculations based on the sale of shares of Wormhole in the next FY 2017-18.

Held by the Income Tax Appellate Tribunal (ITAT)

On perusal of the material on record and hearing submission from both sides, the ITAT noted that the moot question for consideration is “whether the AO is bound by the order of TPO passed under Section 92CA (3) of the Act ”. The Hon’ble ITAT placed reliance on the Hon’ble Delhi High Court³ and the decision of the Coordinated Bench in the case of Cushman & Wakefield (P.) Ltd vs ACIT⁴ and concluded that where TPO has not proposed any adjustment and valuation has been adopted by the AO without verifying the true and correct facts qua the assets, the ground by the assessee is allowed due to sustainability of such erroneous findings both on legality and facts.

Our Comments

The judgment confirms that basis of Section 92CA (4) of the Act , the AO is required to compute the Arm’s length price in conformity determined by the TPO. Any deviation is not permissible in the light of statutory provisions and judicial pronouncements.

Proviso to Section 92CE (1) - Deletes secondary interest adjustment

Tech Mahindra Limtied TS-634-ITAT-2023(MUM)-TP

Facts

The assessee is a joint venture between M/s Mahindra & Mahindra Limited and British Telecom Plc, also the major customer of the assessee. The assessee is engaged in the business of developing computer software and other related services. The assessee granted a loan of USD 5 million to its AEs and charged the interest at LIBOR of 4%.

TPO made an adjustment by adding 1% towards managerial costs, etc., considering that the assessee had borrowed a loan at 9%. CIT(A) proposed an adjustment at LIBOR + 350 basis points, placing reliance on the RBI circular.

With respect to the upfront discount payment by the assessee to British Telecom Plc, the TPO held transaction is not at arm’s length and made an adjustment of 5249.4 million along with adjustment towards interest at the rate of 18% recharacterizing upfront payment of discount fee as interest-free advance. AO deleted the adjustment towards the upfront discount but retained the interest adjustment, which was further deleted by CIT(A).

Held by the ITAT

ITAT held that the appropriate LIBOR rate should be applied to the loan borrowed in foreign currency. ITAT held that LIBOR plus 80 basis points is appropriate on a merit basis that the risk element in lending to a subsidiary is less than lending to third parties.

ITAT held that interest adjustment is a secondary adjustment, which is unlawful and contrary to the provisions of Chapter X, since the primary adjustment is made with respect to AY commencing on or before 1 April 2016.

ITAT further upheld the decision of CIT(A) to delete the interest adjustment made at the rate of 18%, treating the upfront payment of discount as an interest-free advance to AE.

Our Comments

ITAT conducted a detailed analysis of the proviso to Section 92CE (1) which states that the secondary adjustment cannot be carried out if the primary adjustment does not exceed INR 10 million or if the primary adjustment is made for AY on or before 1 April 2016 and basis the merit deleted secondary interest adjustment.

Classification of ‘flavored milk’ under HSN Code 2202 attracts 12% GST, or under HSN Code 0402 with GST at 5%

Parle Agro Pvt. Ltd. vs. Union of India & Others TS-577-HC(MAD)-2023-GST

Facts

• Writ petitions were filed before the Madras HC challenging the decisions of the Tamil Nadu Advance Ruling Authority (AAR) in Re: Britannia Industries Ltd [2020 (36) GSTL 582 (AAR-GST-TN)], as approved by the Tamil Nadu Appellate Advance Ruling Authority (AAAR) [2022 (56) GSTL 36 (App. AAR-GST-TN)], and the Andhra Pradesh AAR in Re: Sri Chakra Milk Products LLP [2020 (32) G.S.T.L. 206 (A.A.R.-GST-A.P.)].
• The said advance rulings had adopted the recommendations of the GST Council in its 3rd meeting dated 22 December 2018, clarifying the classification of ‘flavored milk’ under HSN Code 2202.
• While the petitioner relied upon the decision of SC in Commissioner vs. Amrit Food [2015 (324) ELT 418] to challenge the GST Council’s recommendation, the Revenue defended the position by submitting that the functions of the GST Council, a constitutional body, could not be diluted at the behest of the petitioner to reduce the tax rate, it being policy decision taken by the GST Council in consultation with all stakeholders viz. the State Governments and Union Territories.

Ruling

On GST Council’s recommendation:

• Unlike the Customs and Central Excise laws, where the respective Tariff enactments prescribe the rates under the First Schedule thereto, there is no standalone enactment for fixing the tax rate under the GST regime.
• As per the Explanation to the GST rate Notification for ‘goods,’ the classification thereof must be determined strictly in accordance with the classification under the Customs Tariff Act.
• Hence, the GST Council has given a wrong recommendation; the determination of classification does not fall within its purview under Article 279A of the Constitution. Such classification ought to have been independently determined by the AO.
• As held by the Supreme Court in Union of India and another vs. Mohit Minerals Pvt. Ltd. [(2022) 10 SCC 700], the power of the GST Council is merely recommendatory. It is for the Government to fix appropriate rates on the goods that are classifiable under the Customs Tariff Act.
• Resultantly, the GST Council cannot impose a wrong classification of ‘flavored milk’ under sub-heading 2202 90 30 of the Customs Tariff Act.

On classification of ‘flavored milk’:

• Applying the principle of “Nosciter – a sociis,” HC observed that the expression “Beverage Containing Milk” can include only such beverage containing plant/seed-based milk, which incidentally contains alcohol of specified strength. Therefore, ‘flavored milk’ made from dairy milk of milch cattle/dairy animals cannot come within the purview of Chapter 22.
• Moreover, the erstwhile Central Excise Notifications classifying ‘flavored milk/flavored milk of animal origin’ as “Beverage Containing Milk” were erroneous and just because they were never contested by assessee being beneficial, it cannot mean that the product, in fact, did fall under Heading 2202.
• Resultantly, the product in question could be classified only under Heading 0402, i.e., “Milk and cream, concentrated or containing added sugar or other sweetening matter, including skimmed milk powder, milk food for babies [other than condensed milk],” held the Court.
• However, it was left open to the government to issue a fresh Notification amending the GST rate of the product in question, based on recommendations of the GST Council or otherwise.

Our Comments

The functions of GST Council are delineated in Article 279A of the Constitution. While the GST Council should be guided by the need for a harmonized structure of GST and for the development of harmonized national market for the goods and services, it is pertinent to note that the GST Council can only ‘recommend’ the rates to the Union and the States and not determine the ‘classification’ of goods and services.

One should bear in mind that the classification of a particular good/ commodity into a specific HSN Code would determine the corresponding rate, and not vice versa. Hence, under the garb of recommending the GST rates, the GST Council cannot go beyond its Constitutional limitations.

In fact, all the recommendations of GST Council should first be accepted by the Union and the States and then be implemented by way of Notification, either in the rates or changes to the law.

However, it may be pertinent to note that the present ruling has been delivered by Single Judge Bench and hence, it is likely to be challenged before the Division Bench or directly before the Supreme Court. Nevertheless, the same could open a stream of litigation by those adversely affected by the previous clarifications of the GST Council on classifications.

Notification of Limited Liability Partnerships (Significant Beneficial Owner) Rule, 2023

The Ministry of Corporate Affairs (MCA) had vide a notification dated 11 February 2022, mandated all Limited Liability Partnerships (LLPs) to make disclosures pertaining to their Significant Beneficial Owner (SBO). However, there were several concerns and ambiguities relating to its applicability to the LLPs. These concerns were addressed in the recently notified Limited Liability Partnership (Significant Beneficial Owner) Rules, 2023 (LLP SBO Rules).

The key highlights of the LLP SBO rules are provided below in brief:

Definition of SBO

SBO is an individual who, acting alone or together through one or more persons or trust, possesses one or more of the following rights or entitlements in such reporting LLP, namely:

• holds indirectly or together with any direct holdings not less than 10% of the contribution;
• holds indirectly or together with any direct holdings, not less than 10% of the voting rights in respect of the management or policy decisions in such LLP;
• has right to receive or participate in not less than 10% of the total distributable profits or any other distribution in a financial year through indirect holdings alone or together with any direct holdings;
• has the right to exercise or actually exercises significant influence or control in any manner other than through direct-holdings alone.

Reporting requirements by SBO

• Every individual who is determined as an SBO as per the above criteria in a reporting LLP will file a declaration in Form No. LLP BEN-1 within 90 days from the date of SBO Rules,i.e., by 7 February 2024.
• Every individual who subsequently becomes an SBO or where his ownership undergoes any change will file a declaration in Form No. LLP BEN-1 to the reporting LLP within 30 days of acquiring such significant beneficial ownership or any change therein.

Reporting requirements by LLP

• Every reporting LLP shall issue a notice to every non-individual partner holding not less than 10% of its contribution or voting rights or right to receive or participate in the distributable profits or any other distribution payable in a financial year in Form No. LLP BEN-4 is seeking information to determine if he is an SBO.
• On receipt of SBO’s declaration, the reporting LLP will file a return in Form No. LLP BEN-2 with the Registrar of Companies within a period of 30 days from the date of receipt of declaration by it.
• Reporting LLP will be required to maintain the register of SBO in Form No. LLP BEN-3.

Our Comments

The recently implemented LLP SBO rules mirror the existing practices for companies, introducing a comparable framework for LLPs. Consequently, LLPs are now obligated to comply with SBO declarations and maintain registers, aligning with the procedures followed by companies. The primary goal persists—to foster transparency and accountability by revealing individuals who possess beneficial interests and influence decision-making within LLPs. This initiative aims to unveil intricate networks of holdings and cross-holdings, a tactic often used to obscure the true identity of individuals owning an entity.