Taxability of profits from purchase of goods from India

From Clause (a) mentioned above, it is clear that even in
case where the business connection in India is established, only the profits
which are attributable to such business connection would be taxable in India.
Clause (b) clearly provides that if the non-resident’s activities in India are
confined to purchase of goods for the purpose of exports, then no income shall
be deemed to accrue or arise in India.

2.2 CBDT Circulars :

CBDT Circular No. 23, dated 23-7-1969 provides that
maintaining a branch office in India for the purchase of goods or appointing an
agent in India for the systematic and regular purchase of raw materials or other
commodities would tantamount to business connection in India.

However, Paragraph 3(5) of the said Circular further
clarifies that a non-resident will not be liable to tax in India on any income
attributable to operations confined to purchase of goods in India for export,
even though the non-resident has an office or an agency in India for this
purpose. Where a resident person acts in the ordinary course of his business in
making purchases for a non-resident party, he would not normally be regarded as
an agent of the non-resident u/s.163. But where the resident person is closely
connected with the non-resident purchaser and the course of business between
them is so arranged that the resident person gets no profits or less than the
ordinary profits which might be expected to arise in that business, the
Income-tax Officer is empowered to determine the amount of profits which may
reasonably be deemed to have been derived by the resident person from that
business and include such amount in the total income of the resident person.

The Circular further provides that the taxability of the
apportionment of any income under Explanation (a) to S. 9(1)(i) to an agent of a
non-resident in India will be subject to the exemption provided in Clause (b) of
the said Explanation.

CBDT Circular No. 163, dated 29-5-1975 further clarifies that lithe correct legal position is that in the case of a non-resident, no income shall be deemed to accrue or arise in India through or from operations which are confined to purchase of goods in India for the purpose of export. Accordingly, the mere existence of an agency established by a non-resident in India will not be sufficient to make the non-resident liable to tax, if the sole function of the agency is to purchase goods for export”.

In view of these CBDT Circulars and provisions of law, it is clear that even though the activities of purchase of goods in India for the purpose of exports in case of non-residents are effectively connected to a business connection, no income is attributable to it.

In spite of these clear legal provisions, the matter has come up for judicial interpretation in some cases. In the following paragraphs the same are discussed.

3.0 Judicial Rulings:

3.1 In CIT v. N. K. lain, (1994) 206 ITR 692 (Del.), it was held that no income could be deemed to have accrued to the non-resident assessee in India where, on his instructions, his agent purchased dress material, got it stitched into garments and exported such garments to him abroad.

3.2 The AAR in the case of Angel Garments Ltd., (2006) 287 ITR 341 (AAR) had occasion to decide a similar issue, the facts of which are given below.

Angel Garments Ltd., which was incorporated in Hong Kong, proposed to set up liaison office in India. The proposed activities of the liaison office were as follows:

a) Collecting information and samples of various garments and textiles from various manufacturers, traders and exporters;

b) Passing on information with regard to various garments and textiles products available in India to the applicant’s head office at Hong Kong;

c) Co-ordinate and act as the channel of communication between the applicant and the Indian exporters; and

d) Follow up with the Indian exporters for timely export of goods ordered by the applicant.

Angel Garments applied for an advance ruling seeking determination of taxability or otherwise of the above transactions in India.

Usually, Article 5 of a tax treaty provides that the maintenance of a fixed place of business solely for the purpose of purchase of goods or merchandise or of collecting information for the enterprise does not constitute a permanent establishment. However, since M/ s. Angel Garments Ltd. was incorporated ~ in Hong Kong with which India does not have a tax treaty, the Advance Ruling Authority examined the issue under the provisions of the Income-tax Act, 1961. The Authority concluded that u/s.9 of the Act, lino income shall be deemed to accrue or arise in India to him through or from operations which are confined to the purchase of goods in India for the purpose of exports”. The Authority further held that Explanation to S. 9(1)(i) does not specify that the export should be made to the country of which the applicant is the tax resident (in the instant case it was Hong Kong). Exports can be made to any country.

3.3  Ikea  Trading  (Hong Kong)  Ltd.  (2009) 308 ITR 422 (AAR):

In this case also the AAR reached identical conclusions. Brief facts of the case were as follows:

The applicant set up a liaison office in India to carry out the following activities:

i) Enquiry into and consideration of potential suppliers for the IKEA product range.

ii) Collecting information and samples of various home-furnishing items from manufacturers and passing on information with regard to various textiles, rugs & carpets and other material (such as plastics, metals and lighting products) available in India.

iii) Doing quality check of the various products at labs to see whether they adhere to the costing and quality parameters as prescribed by IKEA group.

iv) Coordinating and acting as the channel of communication between the applicant and the Indian exporters.

v) Follow up with the Indian exporters for timely export of goods ordered by the applicant and supervising the inland logistics.

vi) Doing social audit of the suppliers to ensure that they adhere to various environmental and other regulations.

The applicant shared the office with Ikea Trading (India) Pvt. Ltd., a Group company. The items purchased by the applicant were to be invoiced by the Indian suppliers directly to the applicant who in turn would sell the same to the wholesale companies outside India and the sale price would be received by the applicant outside India and no revenue-generating activities would take place in India. In this case, the consignee was different from the buyer as with a view to save freight, travel and other expenses, the Indian suppliers had been requested to deliver the goods directly to Ikea Group distribu-tion outlets at Belgium and other countries. Further, the export remittances were made to Indian suppli-ers by Ikea Switzerland (and not by the Ikea Hong Kong on whose names invoices were raised) as the said company in Switzerland carried out the function of ‘Central treasury’.

The AAR in this case held that “no income can be attributed to the purchase operations in India by resorting to the deeming fiction u/s.9(1)(i) because the Explanation clearly excludes such attribution. In the case of Mushtaq Ahmed (2008) 307 ITR 401 (AAR), this Authority had noted that Clause (b) of Explanation 1 acts as an embargo against attributing any income to the purchase operations carried out in India, if such purchases are for the purpose of export”.

3.4  Nike Inc. v. ACIT,  (2008 TIOL 255 ITATBang.) :

3.4.1 Recently, the Bangalore Tribunal had occasion to consider similar facts in the above case.

3.4.2 Facts of the case:

i) Nike Inc (the assessee) set up a liaison office in India with the approval of the Reserve Bank of India (RBI) to act as a communication channel between manufacturers in India, the assessee and affiliates of the assessee.

ii) The activities of the Indian liaison office, amongst others, included:

iii) The assessee as a buying agent for its affiliates, directly entered into an agreement with manu-facturers in India for procurement of goods from India. The goods would be directly shipped to the affiliate’s location by the manufacturers. The assessee earned a commission for performing the buying agency services.

3.4.3 The Tax Authorities contended that:

i) The assessee is not purchasing goods from the manufacturer and does not take title to the goods which are directly exported to the affiliates.

ii) The exclusion to business connection in respect of purchase of goods by a non-resident for the purpose of export would not apply to the assessee.

iii) The activities of liaison office are beyond its activities as approved by RBI as the staff of the liaison office trained factories, evaluated samples, certified auditors, etc.

iv) Nike Inc has a business connection/Permanent Establishment in India and is chargeable to tax to the extent of income which is attributable to the activities carried out in India or accruing or arising in India.

v) 5% of the FOB value of exports could be reasonably considered as income attributable to Ind!a operation.

The Commissioner of Income-tax (Appeals) upheld the view of the Assessing Officer as regards the taxability of sourcing operations carried on by the liaison office in India.

3.4.4 The assessee  contended    that:

i) The Revenue authorities cannot travel beyond the Income-tax Act. Violation if any from RBI approval could only be examined by RBI authorities.

ii) The assessee is a one-window procurement agency for distribution and sale by its affiliates.

iii) The assessee is performing the role of an agent for its various affiliates in respect of procurement of goods.

iv) Assessee acting as an agent and assessee acting on its own are more or less parallel to one another, since both end up only in purchase.

v) All the activities performed by the liaison office are within the ambit of purchase function.

vi) Exclusion to business connection under Explanation (l)(b) to S. 9(1)(i) of the Act is clearly attracted because it is export in the course of purchase. Hence no income accrues or arises in India.

3.4.5 The Tribunal held in favour of the assessee as follows:

The assessee is a purchasing agent of the various affiliates. The liaison office was clearly not floating tenders, placing purchase orders and taking physical delivery of the goods, since it was only an agency office of the assessee. It merely ensured that various affiliates receive the goods they require and the quality they expect.

There are three ways  to purchase:
 
1) Purchase of goods and receipt of goods at the same time at one place where the office of the assessee is located.

2) Purchase information sent by the assessee, but goods despatched to its various sales outlets.

3) The assessee as an agent of the buyers indicates to the manufacturers the rate at which the goods will be supplied, the names and addresses of the buyers where the goods have to be sent.

The Tribunal observed that situations 2 and 3 are more or less similar. In the present case which is similar to 3, the affiliates have purchased the goods with the help of the agent. Irrespective of whether the purchase is by the principal directly or through an agent, so long as the purchase is for the purpose of export, the activity would be excluded from the gamut of business connection.

The Tribunal also observed that the assessee is not in anyway representing the manufacturer and is not an agent of the manufacturer but of the affiliates. The liaison office only ensures and supervises the manufacturing activity as an agent of the affiliates. The manufacturer does not receive any services from the liaison office or the assessee. The activities of the liaison office are well within the limits pre-scribed by RBI.

4.0  Provisions under a Tax Treaty :

Normally Paragraph 4 of Article 5 of a tax treaty contains specific exclusions from the definition of the term ‘Permanent Establishment’. Paragraph 4 of Article 5 of the United Nation’s Model Convention reads as follows:

“4.    Notwithstanding the preceding provisions of this Article, the term ‘permanent establishment’ shall be deemed not to include:

a) the use of facilities solely for the purposes of storage or display of goods or merchandise belonging to the enterprise;

b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage or display;

c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise;

d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise or of collecting information, for the enterprise;

e) the maintenance of a fixed place of business solely for the purpose of carrying on, for the enterprise, any other activity of a preparatory or auxiliary character.”

Clause (d) of Paragraph 4 of Article (5) relevant to our discussions, of the OECD Model is similarly worded.

From the above provisions, it is clear that maintenance of a fixed place of business solely for the purpose of purchase of goods or merchandise or of collecting information for the enterprise does not constitute a permanent establishment in the source country.
 
5.0 Conclusion:

From the above discussion, the following principles emerge in respect of exclusion provided under clause (b) of the Explanation to S. 9(1)(i) of the Act:

i) Goods may be exported to any country and not necessarily to the country of the concerned non-resident entity whose activities in India are under question;

ii) Goods may be exported directly by Indian suppliers / exporters;

iii) Delivery of goods may be made to a country different from the country of the concerned non-resident entity i.e., consignee may be different from the buyer;

iv) Payment may be made from a group company from a third country.