Ishikawajma-Harima Heavy Industries Ltd v. Director Of Income Tax, Mumbai

ISHIKA WAJMA-HARIMA HEAVY INDUSTRIES LTD. V. DIRECTOR OF INCOME TAX, MUMBAI JANUARY 4, 2007 B [S.B. SINHA AND DAL VEER BHANDARI, JJ.] income TaxAct, 1961; ss. 5, 9, 42 and 24I(q)(J) of Double Taxation Avoidance Agreement, Clauses 5 and 7, Article I 2: income tax liability-A foreign company entering into a contract with an Indian company for offshore supply of equipments and providing services-Tax liability--Extent of-Held: Contract executed in India-Since part thereof has to be carried out outside India, entire income derived by Contractor would not be taxable in India-Income arising from a business connection could be assessed keeping into consideration terms of the agreement and s.9 of the Act-Income arising out of operation in more than one jurisdiction would have territorial nexus with eachjurisdiction on actual basis-Tax liability on income of asses see would depend upon the facts of each case-income earned by assessee from offshore and onshore supply of goods and services clearly demarcated-Therefore, principle of apportionment could be applied to determine fiscal jurisdiction to assess tax liability-Merely because assessee is a non resident having business connection in India, his income may not be treated as accruing in India-In terms of provisions in DTAA, income arising out of turnkey project as in the instant case would not be assessable in India only because the assessee had a permanent establishment in India-In terms of s.9(J)(vii)(c) of the Act, a non-resident could be taxed on income for services rendered in India-In the facts and circumstances of the case, in te1ws of Double Taxation Avoidance Agreement and provision of the Act, only such part of income as attributable to the operation carried out in India could be taxed in India. Existence of business connection and income accruing or arising out G of such business-Distinction between-Discussed. Doctrines: Doctrine of territorial nexus-Applicability of in the context of H assessment of tax liability. Appellant, a company incorporated in Japan, is engaged in the business A of construction of storage tanks as also engineering equipments etc. It formed a consortium along with other companies and entered into an agreement with an Indian company for setting up a Liquefied Natural Gas (LNG), a project, receiving storage and degasification facility in the State of Gujarat. The contract envisaged a turnkey project. Role and responsibility B of each member of the consortium was specified separately. Each of the member of the consortium was to receive separate payments. The project was to be completed in 41 months. The contract mainly involved: (i) offshore supply, (ii) offshore services, (iii) onshore supply, (iv) onshore services and (v) construction and erection. The price payable for offshore supply and offshore services was in US dollars, whereas that of onshore supply as also c onshore services and construction and erection partly in US dollars and partly in lndian rupees. Liability to pay income tax in India by the appellant being doubtful, an application was filed by the appellant before the Authority for Advance Rulings (Income Tax) in terms of Section 241 (Q)(l) of the Income Tax Act, 1961. The following questions were proposed by the appellant for determination by the Authority: "l. On the facts and circumstances of the case, whether the amounts, received/receivable by the applicant from the Indian company for offshore supply of equipments, materials, etc. are liable to tax in India under the provisions of the Act and India-Japan tax treaty; 2. lfthe answer to (1) is in the affirmative in view of Explanation (a) to section (l)(i) of the Act and/or Article (1) read together with the protocol of the India-Japan tax treaty, to what extent are the amounts reasonably attributable to the operations carried out in India and accordingly taxable in India; 114 116 3. On the facts and circumstances of the case, as to whether the amounts received/receivable by the applicant from the Indian company for offshore services are chargeable to tax in India under the Act and/or the India-Japan tax treaty; 4. lfthe answer to (3) above is in the affirmative, to what extent would be amounts received/receivable for such services be chargeable to tax in India under the Act and/or the India-Japan tax treaty; SUPREME COURT REPORTS [2007] 1 S.C.R. A S. If the answer to (3) above in the affirmative, would be applicant be entitled to claim deduction for expenses incurred in computing the income from offshore services under the Act and/or the India-Japan treaty." The dispute centered round its exigibility to pay tax in respect of 'offshore supply' and 'offshore services'. The Government oflndia and the B Government of Japan entered into a by-lateral treaty on "Double Taxation Avoidance Agreement" (DT AA) in regard to the tax liabilities. The Authority opined that having regard to the provisions contained in Section S read with Section 9 of the Income Tax Act, following propositions of law would emerge: "(1) In a case of sale of goods simpliciter by a non-resident to a resident in India, if the consideration for sale is received abroad and the property in the goods a[1]lso passes to the purchaser outside India, no income accrues or arises or deemed to accrue or arise to the seller in India. (2) In a case of transaction of sale of goods by the non-resident to an Indian resident which is a part of a composite contract involving various operations within and outside India, income from such sale shall be deemed to accrue or arise in India if it accrues or arises through or from any business connection in India. (3) In the case of a business of which all operations are not carried out in India, the deemed accrual or arising of income shall be only such part of the income as is reasonably attributable to the operations carried out in India. (4) As to whether there is business connection in India or/and as to whether all operations of the business are not carried out in India are questions of fact which have to be determined on the facts of each case." Applying these principles to the facts of the present case, the Authority opined that the appellant-assessee was liable to pay direct tax even under G the Treaty having regard to Articles S and 7 thereof as also Clause 6 of the Protocol. As regards taxability of the amounts 'received' and 'receivable' by the assessee from other company for offshore services, it was held that the whole technical fee without any deduction is chargeable to tax, however, the tax so charged shall not exceed 20% of the gross amount of the royalty H or fee for technical services. ISHIKAWAJMA-HARIMAl-IEA \'Y INDUSTRIES LTD 1: DIRECTOR OF INCO~IETAX. MUMBAI Question Nos. 4 and 5 were held to be the consequential ones. Assessee challenged the findings of the authority by filing the appeal before this Court. 116 117 Appellant-assessee contended that the Authority misconstrued and misinterpreted the contract in arriving at its findings, as from a bare perusal thereof, it would appear that the payments were made in US dollars in respect of 'offshore supply' and 'offshore services' and furthermore title to the goods passed on to the Indian company outside the territories of India and services had also been rendered outside India; that the fact that the contract signed in India was of consequences as converse could not have made the assessee not liable to pay the tax; that the Authority committed a manifest errur in arriving at its findings insofar as it failed to properly construe Explanation-2 appended to Section 9(l)(vii) of the Act related to a construction, assembly, mining or like project so as to fall outside the scope thereof; that although fee received by the assessee is effectively connected to the contract but it is not attributable to the permanent establishment and, therefore, Article 12(5) of the Double Taxation Avoidance Agreement (DT AA) is not attracted; that assessee being a non-resident in terms of Section 5(2) of the Act, it would be chargeable to tax in India only in the event income accrues or arises in India or is deemed to accrue or arise in India or income is received or is deemed to be received in India and not otherwise; that as no part of the income for the 'offshore supply' or 'offshore services' is received in India, the Authority misdirected itself in passing the impugned judgment; that a legal fiction raised under the Act cannot be pushed too far. Also, as all operations in connection with the offshore supply are carried out outside India, the question of any portion of the consideration to be regarded as deemed to accrue or arise in India would not arise; that the requirement of the assessee to perform certain services in India, such as unloading, port clearance, transportation of the equipments supplied would not render him eligible to tax as the consideration thereof is embedded in the consideration for the offshore supply; that although he was required to carry out certain activities in India, the consideration for offshore services had separately been provided for; and that assuming that the income from the offshore supply is chargeable to tax in India on the premise that Section 9(1)(i) applies, it was required to be examined by the Authority as to whether it would also be chargeable in accordance with the provisions of the Double Taxation Avoidance Agreement A (DTAA) in terms whereof no charge to tax in India was leviable in·respect of the consideration·for offshore supply. 248, 119 Respondent submitted that the question as to whether terms of the contract constitute a composite contract or not is essentially a question of fact and the findings of the Authority being final, therefore, should not B ordinarily be interfered with; that each component of the contract·was directly relatable to the performance of the integrated contract as violation and/or breach on the part of the parties thereto would affect the entire contract; that the contract itself providing for milestone dates, the breach of any of the terms thereof would result in the breach ofthe·entire contract c and not just the particular obligation; that the turnkey project contemplated a permanent establishment and in that view of the matter Explanation appended to Section 9(1)(i) of the· Act is directly applicable; that the appellant has business connection in India and in that view of the matter the causal connection between ·the·offshore supply and offshore services being interlinked with the entire project, the opinion of the Authority D cannot be faulted; that by reason ofDTAA, the parties thereto can always allocate the jurisdiction to tax the entire income attributable to such permanent establishment to the country in which it is established; and that supply of goods whether offshore or onshore as well as rendition of service whether offshore or onshore are attributable to the turnkey project and, E thus, it would be wrong to contend that in terms of Article 7 of DT AA, no tax could be levied upon the assessee. Partly allowing the appeal, the Court p HELD:• 1.1. The very fact that in the contract; the supply segment and service segment have been specified in different parts of the contract is a pointer to show that the liability of the assessee thereunder would also be different. The contract was executed in India. By entering into a contact in India, although parts thereof will have to be carried out outside India would not make the entire income derived by the contractor to be taxable G in India. [Paras 22 and 231 [140-H, 141-A) 1.2. The provisions with regard to offshore supplies and offshore services wereto be read with the provisions contained in the agreement'Ex. D which formed the basis of customs,duty; Clause 13.4 of the ag