Verizon Communications Singapore Pte Ltd., (Formerly Mci Worldcom Asia Pte Ltd.) v. The Income Tax Officer International Taxation – I, Aayakar Bhawan

In the High Court of Judicature at Madras Dated: 7.11.2013 Coram The Honourable Mrs.JUSTICE CHITRA VENKATARAMANandThe Honourable Mr.JUSTICE T.S.SIVAGNANAM Tax Case (Appeal) Nos.147 to 149 of 2011 and 230 of 2012& connected Miscellaneous Petitions Verizon Communications Singapore Pte Ltd.,(formerly MCI Worldcom Asia Pte Ltd.)having its registered office at 20 Raffles Place16-01/08 Ocean Towers, Singapore 049315,and Address in India for correspondenceonly at C/o S.R.Batliboi & Co.No.3, Cenotaph Road TPL House,II Floor, Teynampet, Chennai – 600 018. .... Appellant in T.C.(A)Nos.147 to 149/2011 Verizon Communications Singapore Pte Ltd.,(formerly MCI Worldcom Asia Pte Ltd.)C/o S.R.Batliboi & Co.6[th] & 7[th] Floor, A Block (Module 601, 701-702)No.4, Rajiv Gandhi Salai,Taramani, Chennai – 600 113. .... Appellant in T.C.(A)No.230/2012Vs. The Income Tax Officer International Taxation – I,Aayakar Bhawan,No.121, Nungambakkam High Road,Chennai – 600 034. .... Respondent in the above T.Cs TC (A) 147 & 148/2011: Appeals u/s 260A of IT Act against the orderdated 7.1.11 in ITA Nos.1311/MDS/2006 and 164/Mds/2007 respectively onthe file of the ITAT,Chennai 'C' Bench for the assessment year 2002-03and 2003-04 respectively against https://hcservices.ecourts.gov.in/hcservices/ the order of the Commissioner of Income Tax Appeals-IX, Chennai dt.14.3.2006 and 16.10.2006 respectively made in ITA No.46/05-06 and ITANo.8/06-07 respectively against the Assessment order of the Income Tax Officer (International-Taxation)I, Chennai dt. 31.3.05 and 21.3.06 respectively for the Assessment Year2002-03 and 2003 -04 respectively. TC(A)149/11: Appeal u/s.260A of the IT Act against the order dt.13.1.2011 in ITA No.1507/Mds/2010 on the file of the ITAT, Chennai 'A'Bench for the Assessment year 2007-2008 against order of the Income Tax Officer, Secretary DRP, Chennai dt. 27.7.10 inF.No.DRP/Chennai/Sectry 047/2010-2011 against order of the Income Tax Officer (International Taxation)-I, Chennai dt.4.8.10 for the Assessment Year 2007-08. TC(A) 230/12: Appeal U/s.260A of the IT Act against the order dt.10.1.11 in ITA No.1722/Mds/2011 on the file of the ITAT, Chennai 'D'Bench for the year 2008-09. against the order of the Income Tax Officer (International Taxation)-I,Chennaidt. 26.8.2011 for the Assessment year 2008-09. For Appellant : Mr.N.Venkataraman, SC For M/s.Mohammed Shaffiq For Respondent: Mr.Mohan ParasaranSolicitor General of Indiaassisted by Mr.T.RavikumarSenior Standing Counsel for Income Tax Mr.Arun Kurien JosephStanding Counsel for Income Tax ---------------- C O M M O N J U D G M E N T CHITRA VENKATARAMAN,J. The above Tax Case (Appeals) arise out of the order of the IncomeTax Appellate Tribunal relating to the assessment years 2002-03, 2003-04, 2007-08 and 2008-09. T.C.(A)Nos.147 to 149 of 2011 were admittedby this Court on the following substantial questions of law: "1. Whether the Tribunal was right on facts and in lawin holding that the payments received by the appellant fromthe Indian customers for provision of Bandwidth/TelecomServices outside India is royalty for the 'use of, or theright to use equipment' under Section 9(1)(vi) of the Act? 2. Whether the Tribunal was right on facts and in lawin holding that the payments received by the appellant fromthe Indian customers for provision of Bandwidth/TelecomServices outside India is royalty for the 'use of, or theright to use equipment' under Article 12(3)(b) of the TaxTreaty?" 2. The assessee seeks admission of T.C.(A)No.230 of 2012 on thefollowing substantial questions of law: "1. Whether the Honourable Tribunal was right in factand in law in holding that the payments received by theappellant from its Indian customers for provision ofBandwidth Services outside India is a royalty for the useof or the right to use equipment under Section 9(1)(vi) ofthe Act? 2. Whether the Tribunal was right on facts and in lawin holding that the payments received by the appellant fromthe Indian customers for provision of Bandwidth/TelecomServices outside India is royalty for the 'use of, or theright to use equipment' under Article 12(3)(b) of the TaxTreaty?" 2. The assessee seeks admission of T.C.(A)No.230 of 2012 on thefollowing substantial questions of law: "1. Whether the Honourable Tribunal was right in factand in law in holding that the payments received by theappellant from its Indian customers for provision ofBandwidth Services outside India is a royalty for the useof or the right to use equipment under Section 9(1)(vi) ofthe Act? 2. Whether the Honourable Tribunal was right in factand in law in holding that the payments received by theappellant from its Indian customers for provision ofBandwidth Services outside India is a royalty for the useof or the right to use equipment under Article 12(3)(b) ofthe Tax Treaty? 3. Whether the Honourable Tribunal was right in factand in law in holding that in the alternative, the paymentsreceived by the appellant from its Indian customers forprovision of Bandwidth Services outside India is royaltyfor the use of process under Section 9(1)(vi) of the Act?4. Whether the Honourable Tribunal was right in factand in law in holding that in the alternative, the paymentsreceived by the appellant from its Indian customers forprovision of Bandwidth Services outside India is royaltyfor the use of process under Article 12(3) of the TaxTreaty?5. Whether the order of the Honourable Tribunal isunsustainable since it has been passed in complete disregard to the judicial discipline and not following thedecision of Honourable Chennai High Court in the case ofSkycell Communications Ltd. Vs. DCIT (2001) 251 ITR 53other decisions of Honourable Authority of Advanced Rulingsin the case of Dell International Services (India) PrivateLimited (2008) 218 CTR 209, Cable & Wireless Network IndiaPrivate Limited (2009) 315 ITR 72, the decisions of theBangalore Tribunal in the case of Wipro V. Income TaxOfficer (2003) 80 TTJ 191, Infosys Technologies Limited V.DCIT (2011) ITA No.1140/Bang/2009 and Software TechnologyParks of India V. ITO (2005) 3 SOT 529 and the bindingdecision of the Honourable Supreme Court in the case ofBSNL V. Union of India (2006) 282 ITR 273(W)? 6. Whether the Honourable Tribunal was right in factand in law, in the alternative, that the payments receivedby the appellant from the Indian customers for provision ofBandwidth Services outside India are in the nature of FTSunder Article 12(4) of the Tax Treaty and under Section 9 (1)(vii) of the Act? 7. Whether the Honourable Tribunal was right in factand in law in not considering and deciding on the groundsrelated to levy of interest under Section 234D of the Act?8. Whether the Honourable Tribunal was right in factand in law in not considering and deciding on the groundsrelated to levy of interest under Section 234B of the Actdespite the fact that the matter has already been decidedin favour of taxpayers by various Honourable Courts inIndia, including the recent decision of Honourable DelhiHigh Court in the case of DIT V. Ericsson A.B. (2012) 204Taxman 192 (Del) and this Honourable Court in the case ofMadras Fertilizers Ltd. (149 ITR 703) which held that nointerest is levied where tax was deductible at source onthe income chargeable to tax?" (1)(vii) of the Act? 7. Whether the Honourable Tribunal was right in factand in law in not considering and deciding on the groundsrelated to levy of interest under Section 234D of the Act?8. Whether the Honourable Tribunal was right in factand in law in not considering and deciding on the groundsrelated to levy of interest under Section 234B of the Actdespite the fact that the matter has already been decidedin favour of taxpayers by various Honourable Courts inIndia, including the recent decision of Honourable DelhiHigh Court in the case of DIT V. Ericsson A.B. (2012) 204Taxman 192 (Del) and this Honourable Court in the case ofMadras Fertilizers Ltd. (149 ITR 703) which held that nointerest is levied where tax was deductible at source onthe income chargeable to tax?" 3. The assessee company, Verizon Communication Singapore PteLimited originally called as MCI Worldcom Asia Pte Limited, and partof the global telecommunication conglomerate of MCI, USA is a non-resident company engaged in the business of providing internationalconnectivity services (bandwidth services or telecom services in theAsia Pacific region including customers in India for transmission ofdata and voice. Being a point to point private line used by anOrganisation to communicate between offices that are geographicallydispersed through out the world, the assessee provides a private linkthat can transport voice data and video traffic between the offices indifferent Countries. Thus, IPLC is an end to end managed dedicatedbandwidth service that provides internet service to customers forvarious applications. The international leg of the telecom servicesprovided outside India is provided by the assessee. Since in India,under the Indian Telecom Regulations, only the licensed serviceprovider could provide international long distance communication services on the Indian leg, and the assessee is not a licensed serviceprovider under the Indian laws, Videsh Sanchar Nigam Limited (VSNL) apublic sector undertaking provides the Indian leg of the internationalservice to the customers. Thus, a customer interested in taking a leaseconnection between its office in India and an overseas location entersinto an arrangement with the assessee for the provision ofinternational connectivity in the overseas leg and with VSNL for Indianhalf of the connectivity. VSNL transmits the traffic of the customer inIndia from the customer's office in India and transmits the traffic toa virtual point outside India and the assessee transmits it upto thecustomer location outside India. It is stated that the assessee usesits telecom service equipment situated outside India in providing theinternational half circuit. It is stated that the gateway/the landingstation in India used in transmitting the traffic within India belongedto VSNL and is used by VSNL for providing Indian end services pursuantto its contract with the customer. On the analysis of the facts, theAssessing Officer came to the conclusion that the payment received bythe assessee in providing IPLC was taxable as 'royalty' for use of orright to use of commercial and scientific equipment under Section 9(1)(vi) read with Explanation 2 of the Income Tax Act and Article 12(3) ofthe Double Taxation Avoidance Agreement (hereinafter referred to as'DTAA') between India and Singapore. The Assessing Officer also heldthat VSNL and MCI Wordcom Asia Pte Ltd are partners in providing IPLCand related services to various customers; the assessee has businessconnection in India on account of the source of income and location ofthe business assets and software in India. Thus the Assessing Officerheld that the payments were in the nature of 'royalty', taxable underSection 9(1)(vi) read with Explanation 2(iva) and (vi) as also underArticle 12(3)(b) of DTAA with Singapore. 4. The assessee objected to this and pointed out that the revenueearned by the assessee could not be considered as 'royalty' paid forthe use of the equipment under the Income Tax Act, as the customershave no knowledge of the equipment/network used by the assessee for theprovision of the service; that the customers do not have the controlwith reference to the usage of the equipment/network used for renderingthe service. The assessee contended that no part of the internationalnetwork is exclusive for any Indian customer or customers as a whole.The agreement between the assessee and the customers being one forrendering of service by the assessee, the payment could not be termedas 'royalty'. The collection of fee for the usage of standard facilitywould not amount to payment made for providing technical services.Thus the assessee contended that the question of any liability to payadvance tax or interest under Section 234B of the Income Tax Act didnot arise. 5. The Assessing Officer rejected these contentions holding thatthe receipt of consideration for rendering of services to the end useris workable only when the assessee and the VSNL are considered to berendering the service jointly to the end user in India. The agreements between the assessee and the end user and the VSNL are part of onetransaction, but executed through several agreements/arrangements.The payments made by the customers for the offshore services renderedby the non-resident assessee are part of one single agreement toprovide IPLC and hence, the receipts are taxable as 'royalty' underSection 9(1)(vi) read with Explanation 2 of the Income Tax Act. He heldthat by reason of the amendment to Section 9(1) with effect from01.04.1976, under Finance Act 2010, the reliance on the decisionsreported in (2006) 282 ITR 273 (Bharat Sanchar Nigam Ltd. and anotherV. Union of India and others), 218 CTR 209 : (2008) 172 Taxmann 418(AAR) (Dell International Services India (P) Ltd., In re) and (2009)315 ITR 72 (AAR) (Cable and Wireless Networks India (P) Ltd., In re)are not of any relevance to the assessee. Thus, payments received forproviding communication bandwidth in the form of IPLC to customers cameto be treated as 'royalty'. The transmission cables and hightechinstruments providing a seamless circuit are 'equipment' and the incomeearned by permitting the use of or right to use of equipment fellwithin the meaning of 'royalty', both under the Income Tax Act andunder the DTAA between India and Singapore. 6. Aggrieved by this, the assessee went on appeal before theCommissioner of Income Tax (Appeals), who confirmed the order of theAssessing Officer for the assessment years under consideration. Thefirst Appellate Authority pointed out to the various clauses in theagreement between the assessee and the customer, customer and VSNL, theMaster Service Agreement, technology agreement between the assesseeand VSNL and MCI Global Access Corporation (WCom), the support servicesagreement with the assessee affiliates and held that the circuitcreated/developed by MCI, comprising of transmission cables andsophisticated instruments, amounted to 'equipment'. The payment madefor the lease of this circuit, which expressed the quantity ofdedicated bandwidth, would be taxable as 'royalty' under Section 9(1)(vi) Explanation 2 as well as under DTAA. Thus, the first AppellateAuthority rejected the appeals. 7. On further appeal before the Income Tax Appellate Tribunal, theassessee reiterated the stand taken before the Authorities. Theassessee contended that it used telecom service equipment which issituated outside the territory of India to provide internationalconnectivity service and that they do not utilise any landing stationin India for providing international half circuits. The gateway inIndia used in transmitting the traffic within India belonged to VSNL.This is used by VSNL for providing Indian end services pursuant to thecontract it has with the customers. According to the assessee, itsassociates MCI Worldcom India Pte Limited (MCI India) has no authorityto negotiate or bind the assessee in any manner vis-a-vis a potentialcustomer. Hence, the assessee has no permanent establishment in India.MCI India provided marketing support to the assessee for which it isremunerated at an arms length basis. Considering the nature of services rendered, the consideration received could not be termed as'royalty'. The Tribunal found that as per the agreement, the customeracquired significant, economic or possessory interest in the equipmentof the assessee to the extent of the bandwidth hired by the customer.This was made available to the assessee on a dedicated basis. Theagreement with VSNL for split billing is only to overcome the telecomregulatory regime prevailing in India. VSNL was a sub-contractor and aprovisioning entity on behalf of the assessee and the IPLC is ahightech circuit comprising transmission cables and sophisticatedequipment. The Tribunal held that even if the payments are not treatedas not relating to the use of the 'equipment', they should beconsidered as payment for the use of the 'process'. Thus, referring tothe ITAT Special Bench order in the case of New Skies Satellites N.V.Vs. ADIT (Int. Tax) reported in 319 ITR 269; in the case of ACIT Vs.Grandpix Fab (P) Ltd. reported in 34 DTR 248, and in the case ofAnsaldo Energia SPA V. ITAT & Others reported in 310 ITR 2237, theTribunal held that the payments made are for the use of tangibleequipment and hence could be considered as payment for the use of orright to use of industrial, commercial and scientific equipment. Thededicated bandwidth is set aside by the service provider for theexclusive use of the customer. Referring to the decision reported in42 SOT 165 (eFunds Corporation V. Asst. DIT), the Tribunal confirmedthe views of the Assessing Officer. Thus, the appeals were rejected.Aggrieved by this, the present appeals have been filed by the assessee. 8. Learned senior counsel appearing for the assessee took usthrough various clauses in the agreements and submitted thatconsidering the fact that the contract between the assessee and thecustomer being one for providing services, the consideration receivedfor rendering of services cannot be termed as 'royalty'. Referring toExplanation 2 to Section 9(1)(vi) of the Income Tax Act, he submittedthat the enumeration in Explanation 2 clearly indicates that theroyalty has to be given a limited meaning only, it being with referenceto tangible and intangible right, property or information. TheExplanation says nothing about treating the consideration on renderingof services as 'royalty'. Statutorily, rendition of services is dealtwith under sub-clause (vii) to Section 9(1) of the Income Tax Act.Even as per this, the receipt cannot fall under sub-Clause (vii).Thus, the assessee renders the service of transmitting the customer'sinformation from one location to another and the customer does not makethe payment for acquiring a process, but only for a facility tocommunicate. Further, the service rendered is on non-exclusive basisand half circuit in India is operated by VSNL. In this, the customerdoes not get any right to use any equipment or has any knowledge orinterest in the process/technical equipment deployed by the assessee inproviding the service. Thus, access to service is different fromaccess to right to use the equipment. Thus the assessee placesreliance on the decisions reported in (2001) 251 ITR 53 (SkycellCommunications Limited and another V. Deputy Commissioner of Income Taxand others), 80 TTJ 191 (Wipro Ltd., V. ITO) and 2005 3 SOT 529 (Software Technology Parks of India V. ITO) and submitted that thepayment could not be brought under the head of 'royalty'. Thearrangement between the assessee and VSNL is a bona fide one based ondomestic law. The assessee is not a party to the agreement between MCIGlobal Access Corporation (Wcom) and VSNL and MCI Global AccessCorporation (Wcom) had sold the nodal equipment to VSNL. The provisionfor transfer back to WCom does not, in any manner, change the VSNL'sownership rights. As regards the role of MCI World Com India, itmerely provides liaising and co-ordinating services and this could notbe treated as permanent establishment. He submitted that IPLC servicesprovided by the assessee could be compared with the goods transporter.There is no conversion of data or voice as in the case of thetransponder services, as discussed in the case of New Skies SatellitesN.V. Vs. ADIT (Int. Tax) reported in 319 ITR 269. In IPLC, there isonly transmission of data and voice in the same form through fibrecables. The Revenue has misconstrued the facts and the sophisticatedtechnology merely concerns transmission of the data without distortionand the VSNL provided independent services within the Indian territoryand is paid for separately and directly by the customers. 9. Explaining the nature of services, the assessee submitted anaffidavit through the Manager (designation) in the assessee'sorganisation giving the list of equipment owned by the customer andthe operating entity in the transmission activity in this part of theWorld or elsewhere. The affidavit proceeds to explain how the system oftransmission works. It states that a dedicated bandwidth is nothing butassuring an uninterrupted 24x7 provision of services at an agreed speedand efficiency to meet the conditions of the service order. It isstated that neither any capacity nor any network including the cablesare earmarked or dedicated to any customer for his exclusive or soleuse. Commenting on the customer equipment (CPE) and service equipment,the affidavit states "a customer equipment is nothing but equipmentowned and operated by the customers such as computers and customerrouters. A customer premises equipment is the interface equipmentbetween the customer router and local loop in the nature of modemprovided by the local loop provider. Lastly, a service equipment isnothing but a cabling facility and equipment installed by the localloop service provider in the nature of a virtual local exchange". 10. The Revenue has also filed an affidavit explaining what IPLCnetwork is about by enclosing a detailed discussion by Dr.NitinChandrachoodan, Associate Professor, Department of ElectricalEngineering, IIT, Madras. In the affidavit filed by the Revenue, it isstated that the IPLC diagram given by the assessee was presented to andthe technical description of the same was obtained from Dr.NitinChandrachoodan, annexed as Annexure – I. The circuit developed by theassessee comprises of transmission cables and sophisticated equipmentstarting from the Data Circuit-Terminating Equipment (DCE) at thecustomer premises to the other end of the network DTE (Data TerminatingEquipment), referred to as Customer Premises Equipment (CPE), and the Data Circuit Terminating Equipment (DCE) are referred to as 'ServiceEquipment' in the assessee's agreements. The assessee providedconnectivity to the customer at its premises at both ends of thenetwork and the connectivity is for a dedicated bandwidth capacity forthe agreed time. The customer could now monitor the extent and qualityof signal transmission at various nodes located all along the networkpathway through 'Network Management Software'. The customer thus paidfor the use of and the right to use of the equipment. It pointed outthat the assessee engaged the services of VSNL as a provisioning entityfor performing certain services in India for which the assessee did nothave the license. Thus the Revenue contended that the receipt isnothing but royalty. Data Circuit Terminating Equipment (DCE) are referred to as 'ServiceEquipment' in the assessee's agreements. The assessee providedconnectivity to the customer at its premises at both ends of thenetwork and the connectivity is for a dedicated bandwidth capacity forthe agreed time. The customer could now monitor the extent and qualityof signal transmission at various nodes located all along the networkpathway through 'Network Management Software'. The customer thus paidfor the use of and the right to use of the equipment. It pointed outthat the assessee engaged the services of VSNL as a provisioning entityfor performing certain services in India for which the assessee did nothave the license. Thus the Revenue contended that the receipt isnothing but royalty. 11. Learned Solicitor General appearing for the Revenuereiterated the above by taking us through the variousclauses in the agreements and submitted that the character of thereceipt clearly fits in with Section 9(1)(vi) read with Explanation 2(iva) of the Income Tax Act for equipment royalty; alternatively, itcan also be taxed as process, falling under Explanation 2(iii) toSection 9(1)(vi) of the Income Tax Act that receipt would neverthelessbe held as 'royalty'. Contending that for tax purpose qua royaltythere need not be a physical or right to use to the user, he submittedthat so long as there is nexus between the user, the situs of the usage(in India) and the purpose of the use (for offering seamless internetfacility), economic exploitation of the equipment gives rise to theincome to be taxed as 'royalty'. Referring to the 2012 amendment addingExplanation 5, he submitted that Explanation 5 clearly pointed out thatfor treating a receipt as 'royalty', even possession or control neednot be proved. He submitted that VSNL's services taken by the assesseewas only part of the agreement that the assessee had with the customer;that VSNL, as a provisioning agent, cannot control the configurationof the equipment at the customer's premises, which connects the Indianhub to the network of VSNL which carries the traffic outside India asper the agreed terms. As network offered is a single continuousunified system, it cannot be bisected as onshore and offshore parts.Thus, when the assessee offered seamless connectivity from one end tothe other, the same is separate logically and artificially because ofthe geographical factors. Thus the entire equipment provided for aseamless connection are one whole indivisible equipment towardsexploitation of the connectivity offered to the end. Thus the paymentis not for pro-rata basis, but towards the entire service offered. 12. Referring to Explanation 6 with reference to the Revenue'scontention that payment is also with reference to the use of theprocess as falling under Explanation 2(iii), he submitted that cable isalso treated as a commercial equipment. Thus for the equipment usageand the services utilised, the payment falls within the meaning of'royalty' and Clause (iva) thus includes licence and lease. 13. Referring to the decisions reported in (2007) 289 ITR 355 (In Re Cargo Community Network Pte Ltd.); 12 DTR 131 (Frontline softLimited and Call World Technologies Ltd. V. Deputy Commissioner ofIncome Tax) and (2013) 353 ITR 646 (In Re: Dishnet Wireless Ltd.,Chennai), he submitted that a right to access and exploit a part ofsegment of a larger system to use the capacity of the system and theconsideration paid therefor clearly falls under Clause (iva) ofExplanation 2 to Section 9(1)(vi) of the Income Tax Act and hence'royalty'. Even otherwise, it is a right to use a process and a rightto use equipment coming within Explanation 2 to Section 9(1)(vi) of theIncome Tax Act. 13. Referring to the decisions reported in (2007) 289 ITR 355 (In Re Cargo Community Network Pte Ltd.); 12 DTR 131 (Frontline softLimited and Call World Technologies Ltd. V. Deputy Commissioner ofIncome Tax) and (2013) 353 ITR 646 (In Re: Dishnet Wireless Ltd.,Chennai), he submitted that a right to access and exploit a part ofsegment of a larger system to use the capacity of the system and theconsideration paid therefor clearly falls under Clause (iva) ofExplanation 2 to Section 9(1)(vi) of the Income Tax Act and hence'royalty'. Even otherwise, it is a right to use a process and a rightto use equipment coming within Explanation 2 to Section 9(1)(vi) of theIncome Tax Act. 14. Referring to the Board's circular on the amendment 2012, hesubmitted that the declaratory amendment now clears whatever doubtsthat were there on the scope of the Explanation. Referring to Article12 of the DTAA, he submitted that there is no prohibition therein inassessing royalty in India. As per Article 3.2 of the DTAA, the termnot defined in the agreement would be understood by the definitioncontained in the law of the contracting state. Thus, going by theExplanation giving the definition on 'royalty' and 'process', thereceipts are rightly taxed herein. 15. As regards the levy of penalty under Section 234B of theIncome Tax Act, he pointed out that unless there is actual deduction oftax as TDS, there can be no escapement from the provision of Section234B levying penalty. In this connection, he relied on the decisionreported in (2011) 2 SCC 408 (CIT V. Rolta India Ltd.), as well as theunreported decision of this Court in T.C.(A)No.202 of 2007 dated23.7.2013 (Commissioner of Income Tax V. M/s.Fisher Sanmar Ltd.), theassessment itself herein made after the amendment. 16. Countering the stand of the Revenue, learned senior counselappearing for the assessee replied that even though wide meaning isgiven under Section 9(1)(vi) read with Explanation 2 on 'royalty, yet,the transaction being one of pure rendering of service, theconsideration could not be taxed as 'royalty'. In this connection, heplaced reliance on the decisions reported in (2006) 282 ITR 273 para 62(Bharat Sanchar Nigam Ltd. and another V. Union of India and others),(2013) 353 ITR 646 para 9 (In Re: Dishnet Wireless Ltd., Chennai),(2007) 289 ITR 355 (In Re Cargo Community Network Pte Ltd.) 12 DTR 131(Frontline soft Limited and Call World Technologies Ltd. V. DeputyCommissioner of Income Tax), (2008) 172 Taxmann 418 (AAR) (DellInternational Services India (P) Ltd., In re) and (2009) 315 ITR 72(AAR) (Cable and Wireless Networks India (P) Ltd., In re). 17. On the question as to whether VSNL is a permanentestablishment of the assessee, he referred to the decision reported in(2007) 292 ITR 416 (DIT V. Morgan Stanley). On the levy of penalty, hesubmitted that Section 209 proviso has relevance for calculatingadvance tax alone and not for TDS. Therefore, the decisions reported in (2012) 343 ITR 470 (Del) (DIT V. Ericsson AB. and others) and (1984)149 ITR 203 (Mad) (Commissioner of Income Tax (Appeals) V. MadrasFertilizers Limited) would be of relevance. 18. Heard learned senior counsel appearing for the assessee andlearned Solicitor General appearing for the Revenue and perused thematerials placed before this Court. 17. On the question as to whether VSNL is a permanentestablishment of the assessee, he referred to the decision reported in(2007) 292 ITR 416 (DIT V. Morgan Stanley). On the levy of penalty, hesubmitted that Section 209 proviso has relevance for calculatingadvance tax alone and not for TDS. Therefore, the decisions reported in (2012) 343 ITR 470 (Del) (DIT V. Ericsson AB. and others) and (1984)149 ITR 203 (Mad) (Commissioner of Income Tax (Appeals) V. MadrasFertilizers Limited) would be of relevance. 18. Heard learned senior counsel appearing for the assessee andlearned Solicitor General appearing for the Revenue and perused thematerials placed before this Court. 19. The Scheme of Section 5 of the Income Tax Act is that allincome received by a resident in India, irrespective of all incomedeemed to be received in India, irrespective of whether it accrued orarise within India; all income accruing or arising to him in Indiaduring the previous year and all income accruing or arising to himoutside India during the previous year are assessable in India as perthe provisions of the Income Tax Act. Section 9 of the Income Tax Actspecifically deals with the assessability of non-resident tax payer inrespect of income from whatever source derived, received or deemed tobe received in India or which accrues or arises or deemed to arise oraccrue in India. Under Finance Act, 1976, a source rule was providedin Section 9 for taxing the income of a non-resident through insertionof Clauses (v), (vi) and (vii) in sub-section (1) of Section 9 forincome by way of interest, royalty or fees for technical servicesrespectively by creating a legal fiction in Section 9 that even incases where services are provided outside India, it is the situs of thepayer, or the situs of utilisation of service by the payer which woulddetermine the taxability of such services in India. 20. After the decision reported in (2007) 288 ITR 408(Ishikawajama-Harima Heavy Industries Ltd. V. Director of Income Tax)that there should be territorial nexus between such income andterritory of India and that the services had to be rendered in Indiaand utilised in India, an explanation was inserted below sub-section 2of Section 9, with effect from 01.06.1976 under Finance Act, 2007clarifying that when income is deemed to accrue or arise in India underClauses (v), (vi) and (vii) of sub-section 1 to Section 9, such incomeshall be included in the total income of the non-resident regardless ofwhether the non-resident has a residence or place of business orbusiness connection in India. Thus, while in the case of resident,irrespective of place of accrual or arising of income, it is taxable inIndia, in the case of non-resident, unless the place of accrual orarising is within India, he cannot be subjected to tax. Thus only tothe extent of any income accruing or arising within India, income isfictionally deemed to arise or accrue in India, and the non-residentwould be liable to be taxed by reason of Section 5(2)(b) of the IncomeTax Act. By Finance Act, 2010, with effect from 01.06.1976, theExplanation inserted by Finance Act, 2007 was substituted withretrospective effect from 01.06.1976 that income of a non-residentshall be deemed to accrue or arise in India under Clauses (v), (vi) and(vii), irrespective of the fact whether the non-resident has aresidence or a place of business or business connection in India or non-resident has rendered service in India. non-resident has rendered service in India. 21. Thus Section 9 of the Income Tax Act deals with taxation onincome of the non-resident on accrual basis. In contrast to theresidence being the focus in the case of the assessees falling forconsideration under Section 5(1), Section 9 lists out income arising oraccruing in India in cases of (i) non-residents directly or indirectlythrough or from any property in India, or through or from any asset orsource of income in India or through the transfer of a capital assetsituate in India; (ii) income which falls under the head "Salaries"earned in India; (iii) income chargeable under the head "Salaries"payable by the Government to a citizen of India for service outsideIndia; (iv) a dividend paid by an Indian company outside India; (v)income by way of interest payable by the Government or by a resident ornon-resident in the stated circumstances and (vi) income by way ofroyalty. 22. In the background of Section 9, considering the conflictingclaim that may arise among nations to exercise jurisdiction to tax theentity by reason of choosing to emphasise on one or more connectingreasons such as the location of the source residence of the taxableentity, maintenance of permanent establishment and so on to exercisetheir fiscal jurisdiction to tax that entity and that some income ofthe same entity might become liable to taxation in different countriesleading to harsh consequences, to avoid such jarring results,incongruous and anomalous situation and to foster economic developmentamong nations, different Countries enter into bilateral treatiesconvention, agreements for getting relief against double taxationcalled Double Taxation Avoidance Treaties or Convention Agreements.The power to enter into a treaty is held as an inherent part of thesovereign power of the State. By Article 73 of the Constitution,subject to the provisions of the Constitution, the executive power ofthe Union extends to matters with respect to which the Parliament haspower to make laws. In the decision reported in (2003) 263 ITR 706(SC) (Union of India v. Azadi Bachao Andolan), the Apex Court pointedout "the power to legislate in respect of treaties lies with parliamentunder Entry 10 and 14 of List I of 7[th] Schedule." As regards fiscaltreaties, since the same would have to be translated into an Act ofParliament, a special procedure is evolved by enacting Section 90 ofthe Income Tax Act enabling the Central Government to enter intoagreements with the Government of any country outside India forgranting relief in respect of income on which both income tax under theAct and income tax in that country under the corresponding Act in thatcountry had been paid. 23. Touching on the scope of tax treaty, in the case of Union ofIndia v. Azadi Bachao Andolan reported in (2003) 263 ITR 706 (SC), theApex Court pointed out that no provision of the Double TaxationAvoidance Agreement can possibly fasten a tax liability where theliability is not imposed by the Act. If a tax liability is imposed by 23. Touching on the scope of tax treaty, in the case of Union ofIndia v. Azadi Bachao Andolan reported in (2003) 263 ITR 706 (SC), theApex Court pointed out that no provision of the Double TaxationAvoidance Agreement can possibly fasten a tax liability where theliability is not imposed by the Act. If a tax liability is imposed by the Act, the Agreement may be resorted to for negativing or reducingit; and, in case of difference between the provisions of the Act andthe Agreement, the provisions of the Agreement would prevail over theprovisions of the Act and can be enforced by the appellate authoritiesand the Court. The provisions of such an agreement, with respect tocases to which they apply, would operate even if they are inconsistentwith the provisions of the Income-tax Act. If it was not the intentionof the Legislature to make a departure from the general principles ofchargeability to tax under Section 4 and the general principle ofascertainment of taxable income under section 5, then there was nopurpose in making those Sections as subject to the provisions of theAct. The Apex Court further pointed out that when the requisitenotification has been issued under Section 90, the provisions of sub-section (2) of Section 90 spring into operation and an assessee who iscovered by the provisions of the Double Taxation Avoidance Agreement isentitled to seek the benefits thereunder, even if the provisions of theDouble Taxation Avoidance Agreement are inconsistent with those of theAct. 24. Touching on the principles adopted for interpretation oftreaties, the Apex Court pointed out "the interpretation of provisionsof an international treaty, including one for double taxation relief,is that treaties are entered into in a political level and have severalconsiderations as their bases". "The court cannot judge the legalityof "treaty shopping" merely because one section of thought considers itimproper." 25. Keeping these principles in the background as far as thepresent case is concerned, we are concerned about the treatment ofincome under the head 'royalty'. As per Clause (b) of sub-clause (vi)to Section 9(1) of the Income Tax Act, where, income by way of royaltyis payable by a person, who is a resident, to a non-resident, the sameshall be taxable as income under the provisions of the Act.Explanation 2 to sub-clause (vi) gives the definition of 'royalty'. Asis evident from the reading of the provision, 'royalty' means theconsideration for transfer of intellectual property rights; forimparting of any information regarding the working of, or the use ofthe intellectual property rights, use of any intellectual property,imparting of any information concerning technical, industrial,commercial, scientific knowledge, experience or skill; use or right touse any industrial, commercial or scientific equipment but notincluding the amounts referred to in Section 44BB; transfer of all orany rights including the granting of a licence in respect of anycopyright, literary, artistic or scientific work including films orvideo tapes for use in connection with television or tapes for use inconnection with radio broadcasting, but not including consideration forthe sale, distribution or exhibition of cinematographic films orrendering of any services in connection with the activities referred toin sub-clauses (i) to (iv), (iva) and (v). 26. The said amendment relating to 'royalty', particularly withreference to use or right to use any industrial, commercial orscientific equipment, etc. was inserted with effect from 01.04.2002under the Finance Act 2001. The said expression came up forconsideration before the Authority for Advance Ruling in the decisionreported in (2005) 305 ITR 37 (Dell International Services (India) Pvt.Ltd., In re), a decision strongly relied on by the appellant insupport of its contention that the payment to the assessee herein isnot 'royalty'. The applicant company before the Authority for Advanceruling was Dell International Services (India) Private Limited engagedin the business of providing call centre, data processing andInformation technology support services to its group companies. Itentered into an agreement with BT America - a non-resident companyformed and registered in USA under which BTA provides the applicantwith two-way transmission of voice and data through telecom bandwidth.While BTA would provide the international half-circuit from theUS/Ireland, the Indian half circuit is provided by Indian telecomcompany, namely, VSNL with whom BTA has a tie-up. The bandwidth soprovided by BTA would give full country coverage in both the countriesof delivery, i.e. USA and India. The fixed monthly recurring charge forthe circuit between America and Ireland and for the circuit betweenIreland and India is payable to BTA. 27. The assessee sought for a decision from the Authority forAdvance Ruling as to whether the amounts payable by the applicant underthe terms of the Agreement would be in the nature of “royalty” withinthe meaning of the term in Explanation to clause (vi) of section 9(1)of the Act, or not?; whether the amounts payable by the applicant underthe terms of the Agreement would be in the nature of “royalty” withinthe meaning of the term in Article 12 of the Treaty, or not?; whetherthe amounts payable by the applicant under the terms of the agreementwould be in the nature of “Fees for technical services” within themeaning of the term in Explanation 2 to clause (vii) of section 9(1) ofthe Act, or not?; whether the amounts paid by the applicant are forthe purposes of making or earning any income from any source outsideIndia and hence covered within the exception carved out in Section 9(1)(vii)(b) or 9(i)(vi)(b) of the Act?; whether the applicant is requiredto withhold taxes under Section 195 of the Income-tax Act on paymentsmade to BT Americas as per the Agreement or not? and finally whetherthe U.S. Company had a ‘permanent establishment’ in India as defined inArticle 5 of the Indo-US Treaty? 28. In considering the said issue, the Authority for AdvanceRuling considered the meaning of 'circuit' as given in the variousdictionaries on science and technology as well as given in theagreement and considered the meaning of the expression 'use or right touse', vis-a-vis the equipment used and the service agreement betweenthe assessee and the U.S company. It pointed out that the service wasan unbroken thread running through the entire fabric of agreement between the parties. The Authority further pointed out that theprovision of telecom bandwidth facility by means of dedicated circuitsand other network installed and maintained by the BTA or its agent doesnot, in the absence of specific and clear indication, amount to a leaseof equipment and that the expression ‘rental’ used here and there inthe Agreement was not used in its legal sense nor can it be treated asa decisive factor. between the parties. The Authority further pointed out that theprovision of telecom bandwidth facility by means of dedicated circuitsand other network installed and maintained by the BTA or its agent doesnot, in the absence of specific and clear indication, amount to a leaseof equipment and that the expression ‘rental’ used here and there inthe Agreement was not used in its legal sense nor can it be treated asa decisive factor. 29. Referring to the decision reported in (1990) 77 STC 182(Rashtriya Ispat Nigam Ltd. V. Commercial Tax Officer, Company Circle,Visakhapatnam) affirmed in 126 ITR 114; (1999) 113 ITR 317 (AggarwalBrothers V. State of Haryana and another), the Authority for AdvanceRuling viewed that the ratio of these decisions therein would not bepressed into service to conclude that the right to use of equipment didnot carry with it the right of control and direction, whereas thephrase ‘right to use’ implies the existence of such control. As to themeaning of the word 'use', th