From The Judiciary

Do marketing and promotion activities performed by Indian Associate Enterprise (AE) result in the creation of an Agency PE in India?

SanDisk International Ltd. TS-540-ITAT-2023(Bang)

Facts

The taxpayer, a tax resident of Ireland, entered into a market research and support services agreement with SanDisk India (one of its related enterprises). Under the aforesaid agreement, SanDisk India assists the taxpayer in promoting its products by, inter alia, conducting market research, gathering data, and performing other support services.

In a survey conducted by the Revenue, it appeared from the e-mail correspondences and employee statements that Sandisk India's activities were excessively beyond what was prescribed under the agreement. Thus, the Revenue proceeded with reassessment and alleged that Sandisk India created an Agency PE for the taxpayer in India.

The taxpayer argued that while Sandisk India was a part of negotiations, the actual contracts were concluded by third-party distributors. However, the Revenue did not accept this contention and thus, the taxpayer filed an appeal with the Tribunal.

Held

The Bangalore Tribunal noted that the Revenue in the final assessment order had itself recorded that SanDisk India does not procure goods, or deliver them, or collect the payments. Thus, the Tribunal opined that Section 9 Explanation 2 (clarifying the scope of business connections in India) is not attracted to the present case. The Tribunal further stated that apart from the statements recorded during the course of the survey, the Revenue did not bring any other cogent material on record to support his argument that SanDisk India constituted Agency Permanent Establishment (PE).

Furthermore, the Tribunal also noted that the agreement between the taxpayer and Sandisk India specifically prohibited Sandisk India from negotiating, concluding, signing, executing, or in any other manner, accepting sales or other contracts in the name of or on behalf of the taxpayer. Moreover, since it was evident from the statement of the employees that third-party distributors actually placed the orders, the Tribunal held that Sandisk India did not constitute an Agency PE in India.

Our Comments

Bangalore Tribunal held that SanDisk India cannot be considered an Agency PE because it solely offers marketing support services and is not involved in securing, negotiating, or finalizing contracts on behalf of the taxpayer.

Can interconnect utility charges paid by an Indian telecom company to a non-resident be taxed as Royalty or FTS?

Al Telekom TS-501-ITAT-2023

Facts

The taxpayer was a resident of Australia and was engaged in providing telecommunication, interconnect, and internet services in India. The taxpayer received payments from Vodafone South Limited (VSL) for the provision of bandwidth capacity and interconnect services. The Indian tax authorities initiated Section 201 proceedings against VSL for not deducting tax at source on these payments. As a result, a re-assessment notice was issued to the taxpayer, asserting that the payments received were taxable as Royalty or Fees for Technical Services (FTS) under the Indian Income-tax Act(the Act) and the India-Austria tax treaty.

Held

Key aspects analyzed by the Tribunal were:

• Definition of 'Royalty': It noted that while the Act had been amended to widen the meaning of 'process' through Explanation 5 and 6, these changes did not affect the tax treaty definition of 'Royalty,' which used the phrase 'use or right to use' rather than 'transfer of all or any rights' as in the domestic law.
• 'Use or Right to Use': The Tribunal held that the installation and operation of sophisticated equipment to provide services did not amount to granting the use or right to use the equipment or process under the tax treaty.
• Intellectual Property: The Tribunal emphasized that the term "process" under Explanation 2 to Section 9(1)(vi) referred to a species of intellectual property. It applied the rule of ejusdem generis to conclude that 'process' must be understood as belonging to the same class of properties as other listed intellectual properties.
• Lack of Transfer of Intellectual Property Rights: The Tribunal found that there was no transfer of intellectual property rights or exclusive rights from the taxpayer to the service recipients, making Explanation 2 inapplicable.
• Control and Possession: The Tribunal considered the control and possession of rights, property, or information and concluded that these should be with the payer for a payment to be considered 'use or right to use.'

In light of the above, the Tribunal held that the payments received by the taxpayer were not taxable as Royalty or FTS.

Instead, they were considered as business profits and, in the absence of a PE in India, were not subject to taxation.

Our Comments

Bangalore Tribunal holds that interconnectivity utility charges are not taxable as Royalties for Austrian company (taxpayer) under Section 9(1) (vi), as well as under the India-Austria tax treaty , relies on jurisdictional HC ruling in Vodafone Idea, which held so by relying on SC ruling in Engineering Analysis.

Availing of Intragroup Services (IGS) cannot be termed as stewardship activity against sufficient and appropriate documentary evidence. Application of comparability under the internal Transactional Net Margin method (TNMM) depends upon the quantity sold to Associated Enterprise (AE) vis-a-vis independent third parties

TDK India Private Limited ITA No. 2646/Kol/2018 & 1998/ Kol/2019

Facts

The taxpayer is primarily engaged in the manufacturing and sale of electronic components such as metalized plastic film capacitors and soft ferrite components of different shapes, sizes, weights and properties. The taxpayer sells ferrites in the domestic market and also exports to its AE.

IGS: Considering limited employee resources, the taxpayer entered into a Framework Services Agreement (FSA) with its AE for availing certain specialized services/ IGS (viz. IT, management, corporate sales, product marketing, finance, quality audit, etc.) for the effective conduct of business. The Transfer Pricing Officer (TPO) held that the IGS availed from the AE were in the nature of stewardship activity and concluded the ALP of IGS transactions to be NIL.

The Dispute Resolution Panel (DRP) upheld TPO's action and held that the taxpayer failed the Benefit Test.

Export of goods: The taxpayer considered Comparable Uncontrolled Price (CUP) based on the third-party price quotation received by AE from existing vendors/ suppliers. Also, since the operating margins of -25.27% from AE were higher as compared to -25.47% from an independent third party, the transaction was concluded to be at Arm's Length Price (ALP).

The TPO disregarded the internal comparability, applied external TNMM, and carried out Transfer Pricing (TP) adjustment. The DRP also disregarded the internal TNMM workings submitted by the taxpayer.

Held by the Income Tax Appellate Tribunal (ITAT)

IGS: ITAT observed that the taxpayer group is a giant manufacturer with significant export revenue, there exists a need for a dedicated product marketing team and it was concluded that the IGS availed by the taxpayer is not exclusive in nature, wherein the AE also had a similar arrangement with other group companies. Furthermore, how the taxpayer conducts its business is its prerogative and Revenue Authorities cannot question whether a particular service actually benefits the taxpayer.

ITAT further observed that the TPO did not apply any of the prescribed methods of the Act to determine ALP. It held that the action of the TPO is without any basis.

Basis the evidence regarding benefits availed which were not disputed by the TPO, the ITAT concluded that the taxpayer has explained in detail the need and consequent receipt as well as benefits derived by availing such service. Furthermore, a copy of the cost allocation statement certified by an independent professional was also submitted. ITAT held the TPO erred in concluding the nature of services as stewardship activity and held that charges paid by the taxpayer were at ALP.

Export of goods: ITAT observed that the mere mention of profit margins from the sale of ferrites to AE to be more than the sale of ferrites to independent third parties does not solve the purpose. It held that the profit margin formula/ internal TNMM can be accepted only when the quantitative details of the goods sold in the domestic market are at par with the goods exported to AE.

Our Comments

The ruling once again emphasizes the need to maintain robust documentation to substantiate the need and benefits of availing the IGS. It is pivotal to demonstrate by way of robust documentation that such arrangements of taxpayers with the AEs are not exclusive in nature to substantiate that such services shall not qualify as being in the nature of shareholder and stewardship activities. Further, for the applicability of internal comparability (even for the application of internal TNMM), all relevant comparability criteria shall be satisfied (viz. quality, quantity, quantum and terms, etc.).

In the matter of Orient Cement Limited TS-424-AAR(KAR)-2023-GST

Facts

• The applicant, a manufacturer of cement, incurs various marketing and distribution expenses for brand/ products promotion.
• The applicant had launched various target/performance-based discount schemes/white goods schemes for their dealers.
• The benefit provided to the dealer would be determined based on the amount credited to the dealer's account, which in turn would be based on the quantity and grade of cement purchased by such dealer.
• To pass on such credit, the applicant resorts to the distribution of gold coins and white goods instead of adjusting it against the payment to be received from such dealers or issuing them credit notes.
• As per the applicant, such distribution can neither be regarded as 'disposal by way of gifts' under Section 17(5)(h) of the CGST Act nor as 'permanent transfer or disposal of business assets' in terms of Schedule I r/w Section 7 of the CGST Act.

Ruling

• The Authority for Advance Ruling (AAR) opined that GST paid on procurement of gold coins and white goods was covered under the definition of ITC.
• These goods were distributed subject to the fulfillment of certain conditions and stipulations as agreed with the dealers. Whereas a gift is given without any conditions and stipulations and hence, the same cannot be covered under the scope of "gifts." Consequently, the restriction under Section 17(5) (h) would not apply to instant transactions.
• On the other hand, the achievement of marketing targets set by the applicant is an inducement from the dealer or non-monetary consideration paid by the dealers for the receipt of gold/white goods.
• Since these goods are transferred for consideration, the same is covered in the definition of 'supply.'

• Even otherwise, these goods are permanently transferred to the dealers on which the applicant has claimed ITC.
• Accordingly, the same would be covered under Schedule I in as much as:
  • The term "assets" includes 'inventory' and since these goods are procured in the course of business, they would qualify as "business assets".
  • Entry 1 of Schedule I states that these business assets should be capitalized.
• Therefore, the activity of distribution of goods would be treated as supply as per Section 7(1)(c) of the CGST Act.

Our Comments

Hitherto, there have been contradictory advance rulings [such as in the matter of Sanofi India Limited, Biostadt India Limited, Musashi Auto Parts Pvt Ltd, Surfa Coats (India) Pvt. Ltd., etc.] wherein the goods distributed free of cost have been treated as 'gifts' or goods for 'personal consumption' to disallow ITC thereon. Although not a judicial precedent, the present advance ruling should aid taxpayers during assessments and audits under the GST law.

It may be pertinent to note that vide Circular No. 92/11/2019-GST dated 7 March 2019, it has been clarified that where the activity of distribution of gifts or free samples falls within the scope of "supply" on account of the provisions contained in Schedule I of the said Act, the supplier would be eligible to avail of the ITC.

However, the questions of whether such incentive products can be treated as "business assets" and whether the achievement of the target can be treated as non-monetary consideration are highly debatable.

Given the prevalence of such practice across industries and the varied treatment accorded thereto, it would be worthwhile if clarification is issued to put the dispute/ambiguity revolving around this issue to rest.

Extension for holding General Meetings through VC) or OAVM

In continuation to a series of general circulars issued previously since the onset of the COVID-19 pandemic, the Ministry of Corporate Affairs (MCA) vide its General Circular No. 09/2023 dated 25 September 2023 has allowed all the Companies to conduct Annual General Meetings (AGMs) and Extraordinary General Meetings (EGMs) to be held on or before 30 September 2024 through Video Conferencing (VC) or Other Audio Visual Means (OAVM) or pass special and ordinary resolutions or transact items through postal ballot in accordance with the framework provided in the aforesaid circulars.

MCA has further clarified that the said relaxation shall not be construed as an extension of time for holding AGMs under the Companies, 2013, and the timelines provided under this will have to be strictly adhered to.

Our Comments

Relaxations brought in by the MCA during COVID-19 times, such as conducting general meetings through virtual or hybrid mode, has been accepted as a new normal by the industry because of its convenience and cost-effectiveness for the Companies as well as the members attending the meetings. This COVID-19 time relaxation of the extension of video conference facility for holding general meetings up to September 2024 has been welcomed with open arms.