[2018] 94 taxmann.com 111 (Delhi – Trib.)
(SB)
Nokia Networks OY vs. JCIT
A.Ys.: 1997-98 & 1998-99
IT Appeal Nos.: 1963 & 1964 (Delhi) of
2001
Date of Order: 6th June, 2018
Facts
The Taxpayer was a company incorporated in,
and tax resident of, Finland. It was engaged in manufacturing and trading of
telecommunication systems, equipment, hardware and software. In 1994, it
established a LO in India, and in 1995, it established a wholly owned
subsidiary in India (“ICo”). The Taxpayer had entered into contracts for
off-shore supply of equipment. After incorporation of ICo, installation of the
equipment was undertaken by ICo under independent contracts with Indian Telecom
Operators. The Taxpayer did not file return of its income in respect of
off-shore supply contending that there was neither any business connection nor
was there a PE in India and hence, it was not liable to tax in India.
The AO completed the assessment holding that
both LO and ICo constituted PE of the Taxpayer. The AO held that 70% of the
revenue from supply of hardware was attributable to PE in India and 30% of the
revenue was attributable to supply of software. On the ground that the software
was licensed to telecom operators, the AO treated the revenue attributable to
supply of software as ‘royalty’ (on gross basis) both, under Article 13 of
India-Finland DTAA and u/s. 9(1)(vi) of the Act. The AO further added notional
interest on the ground that the Taxpayer had provided credit to customers but
had not charged interest.
Through successive stages, the matter
reached Delhi High Court, which remanded the matter to Tribunal for
adjudicating on following specific issues:
1 Whether having
regard to India-Finland DTAA, the Tribunal’s reasoning in holding that ICo was
a PE of the Taxpayer was right in law?
2 Whether the Tribunal was right in law in
holding that a perception of virtual projection of the foreign enterprise in
India resulted in a PE?
3 Without prejudice, if the answers to Q.1
& Q.2 were in affirmative, whether any profit was attributable to signing,
network planning and negotiation of offshore supply contracts in India and if
yes, the extent and basis thereof?
4 Whether in law the notional interest on
delayed consideration for supply of equipment and licensing of software was
taxable in the hands of the Taxpayer as interest from vendor financing?
Held [majority view]
1 Whether ICo was a PE under India-Finland
DTAA?
(i) Whether ICo was PE under Article 5(2)?
? A fixed place PE is
constituted if the business is carried on through
a fixed place of business. The term “through” assumes great significance since
even if the place does not belong to the non-resident but is at his disposal,
it would be his place of business. In Formula One World Championship Ltd vs.
CIT [2017] 394 ITR 80 (SC), the Supreme Court has observed that the
‘disposal test’ is paramount to ascertain existence of fixed place PE.
– The Tribunal
observed as follows.
(a) Neither AO nor CIT(A) had given any
categorical finding of fixed place PE except mentioning about co-location of
employees and availing of common administrative services.
(b) Presence of foreign expatriate employees
of ICo may support the case for a service PE but not fixed place PE. Indeed, in
absence of specific provisions in DTAA, PE would not be constituted.
(c) Post-incorporation of ICo, no evidence
of MD of ICo having signed contracts was adduced. Even assuming that he was
acting as representative of, or that he was receiving remuneration from, the
Taxpayer, it would not be relevant for examining fixed place PE.
(d) After incorporation of ICo the Taxpayer
had not carried out any other activity except off-shore supply of equipment.
ICo was an independent entity, which had entered into independent contracts and
income earned from such contracts was taxed in India.
(e) ICo was providing technical and
marketing support services to the Taxpayer for which it was remunerated at cost
plus 5% and in respect of which the AO had not taken any adverse action
possibly, because it was considered arm’s length remuneration.
(f) While administrative activities were
carried out by ICo, the AO had not alluded to any premise or a particular
location having been made available to the Taxpayer. Thus, ICo had not provided
any place ‘at the disposal’ of the Taxpayer.
(g) Provision of minor administrative
support services such as telephone, conveyance, etc. cannot form fixed
place PE.
(ii) Whether negotiation, signing,
network planning, etc. created PE?
– The scope of
remand of the High Court was to examine whether signing, networking, planning
and negotiation would constitute PE. Article 5(4) of India-Finland DTAA
specifically excludes preparatory and auxiliary activities from being treated
as PE. The aforementioned activities were in the nature of ‘preparatory or auxiliary’
activities.
– Even if it is
assumed that these activities created some kind of a fixed place, since they
were preparatory or auxiliary in character, that place could not be considered
a PE.
(iii) Whether ICo was dependent agent PE
(“DAPE”) under Article 5(5)?
– A DAPE would be constituted if a dependent agent habitually
exercises authority to conclude contracts on behalf of a non-resident.
– The contract for supply of
off-shore equipment was concluded by the Taxpayer outside India. Further, no
activity relating thereto was performed in India. There was nothing on record
to show that ICo had concluded contract on behalf of the Taxpayer.
– To constitute a DAPE, the
activities of the agent should be under instructions, or comprehensive control,
of the non-resident and the agent should not bear any entrepreneurial risk. ICo
neither had authority to conclude supply contract nor any binding contract on
behalf of the Taxpayer. ICo was an independent entity, which had entered into
independent contracts with customers on principal-to-principal basis. ICo was
bearing its own entrepreneurial risk.
– After becoming MD, the
erstwhile representative had not signed any contract for off-shore supply.
Monitoring by the Taxpayer of warranty and guarantee provided by ICo did not
yield any income to the Taxpayer but the income arose to ICo. Such income was
duly taxed in India.
– Accordingly, on facts, the
Taxpayer did not have DAPE under Article 5(5).
(iv) Whether ICo
was deemed PE under Article 5(8)?
– Article 5(8) of
India-Finland DTAA specifically provides that control over the subsidiary does
not result in creation of PE. of a non-resident in source state cannot give
rise to PE of the non-resident.
– OECD and UN Model
Conventions also clarify this. Further, in ADIT vs. E Fund IT Solutions
[2017] 399 ITR 34 (SC), Supreme Court has also held accordingly.
(v) Whether ICo had ‘business connection’ under
the Act?
– This issue is academic
since the Taxpayer did not have PE in India under India-Finland DTAA.
– In case of the Taxpayer,
Delhi High Court has concluded that LO did not constitute PE, and that there
was no material which could support that LO could be ‘business connection’, of
the Taxpayer. Further, while place of negotiation, place of signing of
agreement or formula acceptance thereof or overall responsibility of the
Taxpayer are relevant circumstances, since the transaction pertains to sale of
goods, the relevant and determinative factor was where the property in goods
passed. However, supply under the agreement was made outside India and property
in goods was also transferred outside India.
– Both marketing (for the
Taxpayer) and installation (for telecom operators) activities were undertaken
by ICo on principal-to-principal basis. For marketing activity, the Taxpayer
had remunerated on cost plus markup basis. Income from both were taxable in
India. Since there was no material change, conclusion of Delhi High Court in
case of LO would also apply in case of ICo.
2 Whether ICo was virtual projection in
India of the Taxpayer?
– Concept of ‘virtual
projection’ postulates projection of a non-resident on the soil of the source
country. It is not relevant on a standalone basis.
– If, on facts, a fixed place
is not established and disposal test is not satisfied, then virtual projection
by itself cannot create a PE.
3 Whether profit attributable for signing,
network planning, negotiation, etc.?
– Since nothing was taxable
on account of negotiation, signing, network planning as they were preparatory
or auxiliary activities which were excluded from being treated as PE, question
of attribution of income on account of these activities would not arise.
4
Whether notional interest taxable as interest from vendor finance?
– Income tax is levied on
real income, i.e., on the profits determined on commercial principles. The
revenue had not brought on record that the Taxpayer had charged interest on
delayed payment or that any customer had actually paid such amount. Further,
the Taxpayer had not debited account of any of the customers for such interest.
Also, none of the parties had either acknowledged the debt or any corresponding
liability of the other party to pay such interest. Thus, no actual or
constructive ‘payment’ of interest had taken place.
– Therefore, income which had
neither accrued nor was received by the Taxpayer could not be taxed on notional
basis.
Held [minority view]
– The Taxpayer carried out
entire marketing and administrative support work in India through ICo, at a
fixed place in India and without adequate arm’s length consideration. The
visiting employees of the Taxpayer also used the premises of ICo and carried
out important core business functions from the place of ICo. At no stage the
Taxpayer had submitted details about names and duration of stay of the expatriate
employees who availed such support from ICo.
– ICo was working wholly and
predominantly for the Taxpayer. The Taxpayer had given specific undertaking to
the end-customers of ICo that during the currency of their agreements with ICo,
the Taxpayer will not dilute its equity ownership below 51%.
– All the installation work
generated for ICo was entirely in the control, and at the mercy, of the
Taxpayer. Operational personnel in ICo also included number of expatriates on
deputation, secondment or assignment from the Taxpayer. The role of the
Taxpayer was omnipotent in all the operations of ICo, not only because of the
ownership of ICo but also because of the business module adopted by the
Taxpayer. Installation and other post-sale services rendered by ICo were
complementary to the core business operations of the Taxpayer. ICo, in
substance and in effect, was a proxy of the Taxpayer in performance of
commercial activities. Accordingly, the office of ICo constituted the fixed
place of business through which the business of the Taxpayer was wholly or
partly carried out.
– Since ICo was acting as
proxy and as an agent, the disposal test had to be vis-à-vis ICo and not
the Taxpayer directly. Thus, the Taxpayer carried on the business in India
through a fixed place of business, which was office of ICo. Consequently,
office of ICo was PE of the Taxpayer.
– Negotiation, signing,
network planning are core marketing functions and core support technical
functions which are vital to the business of sale of equipment. These services
can be equated with marketing services rendered by the Taxpayer through its PE
in India. Thus, all the crucial marketing and support functions were rendered
by the Indian PE (i.e., ICo).
– ICo rendered the important
and vital services on a non-arm’s length consideration and without adequate
compensation. Hence, following Rolls Royce plc vs. DCIT [2011] 339 ITR 147
(Del), 35% of the total profits should be attributable to PE.
