SKP Tax Alert
16 January 2015 | Volume 7 Issue 18
Installation and commissioning Services would not constitute 'fees for technical services' but would be taxable as 'business income' 

Background
Recently, the Jabalpur Tribunal (ITAT), in the case of Birla Corporation Ltd vs ACIT ( I.T.A. No.: 251 and 252/JAB13 ), has held that tax is not required to be withheld for payments made for purchase of plant and machinery which may also include charges for installing and commissioning of these machines. In arriving at this conclusion, the ITAT has disregarded this contention of the Tax Authorities, that the payments were made for composite contract of purchase of plant and machinery, including incidental services of installation and commissioning. The ITAT has also brushed aside the Tax Authorities' contention that payment for installing and commissioning services constitute Fees for Technical Services (FTS) and hence tax was required to be withheld accordingly. The ITAT held that taxability of such payments have to be determined with respect to the Double Tax Avoidance Agreement (DTAA) entered into by India with various countries, and since in the case under consideration, each of the DTAA has provided for a specific Permanent Establishment Clause (PE) with respect to installation and supervision activity, it would override the general clause of FTS in the treaty. Thus, it was concluded by the ITAT that purchase consideration attributable to installation and commissioning, if any, would be treated as business income and taxable in accordance with Article 7 read with Article 5 of the respective Treaty and Article 12 or 13 of DTAA dealing with FTS would have no role to play in such cases.

Facts of the case
  • The taxpayer, Satna Cement Works, a unit of Birla Corporation Ltd, was engaged in the business of manufacturing and selling cement.
  • During the relevant previous years 2009-10 and 2010-11, the taxpayer had made certain remittances to various non-resident vendors  in Austria, Belgium, China, Germany, Switzerland, the UK and the US  towards import of the plant, equipment and machinery, without deducting tax at source. These vendors also provided the installation and commissioning services for which no separate fees were charged.
  • The Assessing Officer - Tax Deducted at Source (AO – TDS) was of the view that the above remittances were made with respect to composite contracts and believed that the said contracts included provision of supervision, commissioning and installation services by the vendor himself along with supply of a plant and machinery. In spite of the said services being technical in nature, no taxes have been withheld by the taxpayer.
  • Thus, the AO – TDS computed the tax withholding on the payments involved at the rate of 42.23%, being the tax rate applicable to a foreign company.
  • Aggrieved by the order of the AO – TDS, the taxpayer filed an appeal with the Commissioner of Income-Tax (Appeal) (CIT(A)) .
  • The learned CIT (A) analysed each of the purchase contracts and noted that each of the contracts put the vendors under certain obligations with respect to installation and commissioning. On this basis, he concluded that all the contracts were composite contracts for purchase of goods and related services for installation and commissioning etc on which tax should have been deducted.
  • Thus, the CIT(A) agreed with the findings and conclusion of the AO – TDS and upheld his order.
  • Following this, the taxpayer has approached the Income-tax Appellate Tribunal (ITAT)
 
Key issues before the ITAT
  • Whether tax should have been deducted on the amounts remitted by the taxpayer to its non-resident vendors for import of the plant, equipment and machinery which was in the nature of business income for the vendors?
  • If a part of the income (embedded in the payments to non-resident vendors) could be attributed to installation, assembly or commissioning activities of the plant, equipment or machines purchased, would the same be categorised as FTS?
  • Can the taxpayer claim the benefit of the tax treaty for the first time before the Tribunal, if the same aspect had not been raised before any of the authorities below?
 
In the following paragraphs we have discussed the above issues and the ruling of the Tribunal

Tax Authorities' contention
  • The contracts for import of the plant, equipment and machinery were not merely for supply but were composite contracts for installation, assembly and other services along with supply. Accordingly, the taxpayer was required to deduct tax at source while remitting the payment towards such contracts at the rate of 42.23%.
  • As per the AO–TDS, if there was any doubt in the mind of the taxpayer regarding the income element in such a composite contract, it was the duty of the  taxpayer to approach the income-tax authorities, under section 195(2) of the Income-Tax Act, 1961 (ITA), for apportionment of the taxable/non-taxable part of remittance.
  • Onus of claiming the benefit as per the tax treaty provisions was on the taxpayer. Since the taxpayer had not availed the same, it should not be given any opportunity to make out a fresh claim for the first time before the ITAT.
  • The taxpayer had, on its own, accepted the taxability under the FTS and withheld tax on that basis, while making specific remittances for independent payments for the installation and commissioning charges.
Taxpayer's contention
  • Contracts clearly indicated that the remittances made were only pertaining to the purchase of the plant and machinery which were supplied entirely from outside India (offshore supply). No payments were made towards installation or related activities. Hence, with no accrual of income in India on account of any services, there was no obligation to deduct tax at source from the said remittances.
  • Making an application under section 195(2) was required only when some taxable income was embedded in the foreign remittance.
 
ITAT's ruling
  • Deeming provisions for taxing the FTS income as per the ITA excludes "consideration for assembly" from its purview. The expression "installation, commissioning or erection" of the plant and equipment is the same as the expression "assembly" used in the exclusion clause and hence, such activity would be out of the provision of FTS taxation.
  • Further, it is elementary that once the DTAAs are termed or notified, they form an integral part of the domestic tax legislations. The binding nature of the tax treaty provisions is beyond any doubt. Hence, it has held that the taxpayer was eligible to claim the treaty benefit even before the ITAT for the first time.  
  • The DTAA with vendors of all the countries mentioned above provided for the installation PE clause in Article 5 with a specified threshold time limit for triggering PE. The said threshold was not breached in any of the cases, and hence no PE was constituted.
  • When the project fails to satisfy the PE test by not exceeding the threshold limit provided for in the DTAA, the same cannot be brought to tax as FTS. Treating the said services as FTS, would render the PE provisions meaningless and redundant and would be contrary to the spirit of observations in the UN Model Convention Commentary.
  • Accordingly, in the case of installation and like services, the provisions of Article 7 read with Article 5 would prevail over Article 12.
  • The ITAT also relied on the observations of the Supreme Court in the case of Union of India vs India Fisheries (P) Ltd [57 ITR 331 (1965)] which has held that "If there is an apparent conflict between two independent provisions of law, the special provision must prevail over general provision".
  • Based on the details submitted by the taxpayer, the threshold time limit for constituting a PE had not been exceeded and, hence no PE in India was constituted, unless such vendors have a PE in India, no income in respect of the business of sale of equipment, plant or machinery and its installation in question, can be brought to tax in India.  
  • Merely because the taxpayer had accepted taxability in respect of some other transaction earlier, no matter howsoever related, the legal remedies available to the taxpayer cannot be negated. Taxability of an income has to be decided as per the provisions of the law and not based on the conduct of the parties. There cannot be, and there is no, estoppel against the law.
For the purpose of completeness, FTS clauses as per various tax treaties have also been discussed in detail by the ITAT and it was held that even under the FTS clause payment towards installation services would not be taxable either because of the "make available" clause in the treaty or specific exclusion of such services related to sales of the property from the FTS clause.
SKP's Comments
This judgement has brought to light that the treaty benefit is available to the taxpayer any time, even if it has not claimed the same before lower authorities. It also lays down very strongly that installation and commissioning services would not be in the nature of FTS but would fall under the PE clause, especially when the DTAA lays down a specific threshold time limit for determining the PE. It has also been reiterated and strongly supported that specific provisions would override general provisions. 

SKP
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This SKP Tax Alert contains general information existing at the time of its preparation only. It is intended as a news update and is not intended to be comprehensive nor to provide specific accounting, business, financial, investment, legal, tax or other professional advice or opinion or services. This tax alert is not a substitute for such professional advice or services, and it should not be acted on or relied upon or used as a basis for any decision or action that may affect you or your business. Before making any decision or taking any action that may affect you or your business, you should consult a qualified professional adviser and also refer to the source pronouncement/documents on which this tax alert is based. It is also expressly clarified that this tax alert is not a solicitation or an invitation of any sort whatsoever or a source of advertising from SKP Group or any of its entities to create any adviser-client relationship.

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