Direct Tax

Whether an income derived by a determinable trust should be subject to tax as an income in the hands of the settlor?

Abu Dhabi Investment Authority Vs AAR/DCIT Writ Petition No: 770 of 2021

Facts

The taxpayer, Abu Dhabi Investment Authority (ADIA), is a public institution owned by and subject to the supervision of the Emirate of Abu Dhabi. Article 4 (2) (d) of the India-UAE DTAA expressly provides that ADIA is a resident of UAE for the purposes of Article 4 thereof and, accordingly, ADIA is entitled to invoke the beneficial provisions of the India-UAE DTAA.

ADIA has settled a trust in Jersey to make investments in India. As per the deed of settlement, it is a revocable and determinable trust, i.e., ADIA is its sole beneficiary. According to ADIA, the income derived from making investment and debt securities in India was not assessable to tax in India for the trust or ADIA having regard to the provisions Article 24 of the India-UAE DTAA.

With the aforementioned view, ADIA applied an application before the Authority for Advance Ruling (AAR), however, the AAR did not accept the taxpayer's contentions. Aggrieved by the ruling, the taxpayer has filed a writ before the Bombay High Court (HC).

Held

Ruling in favor of the taxpayer, the Hon’ble HC has held that Section 61 of the Income-tax Act (ITA) provides that any income arising to any person by virtue of revocable transfer shall be chargeable to tax as the income of the transferor. The deed of settlement shows that there is a revocable transfer by the settlor, and as such, any income arising to the trustee should be chargeable in the hands of ADIA. Furthermore, it was noted that the investment has been routed through a trust in Jersey solely for commercial expediency and not to avoid tax. Given that ADIA has right to re-assume power over the entire Trust’s income as per the Deed of Settlement, it has to be assessed in terms of Section 61 in the hands of ADIA and the exemption under Article 24 of India-UAE DTAA would be attracted.

Our Comments

This is a welcome decision. The Hon’ble Bombay HC has taken into account the substance of the structure over form to determine the taxability and granting the DTAA benefit.

Whether software embedded in hardware would tantamount to Royalty?

M/s. Synamedia Limited Vs. The ACIT 363/Bang/2017 2006-07, 504/ Bang/2017 2012-13, 505/ Bang/2017 2013-14 and 255/ Bang/2014 2010-11

Facts

The taxpayer is a non-resident foreign company incorporated in the UK. It is in the business of supply of open digital technology and services to digital pay television (pay-TV) platform operators and content providers. The taxpayer entered into an agreement with its customers to supply integrated hardware systems along with embedded software. The hardware is primarily in the form of viewing cards, Set-top-Box (STB) and other connected components usually used in viewing television through satellite. The embedded software is required to run the hardware components.

The Assessing Officer (AO) treated the payment received by the taxpayer from the sale of embedded software as Royalty under the ITA. The Dispute Resolution Panel (DRP) upheld the draft assessment order of the AO. Aggrieved by the final assessment order, the taxpayer filed an appeal before the Tribunal.

Held

After considering, the facts on records, the Bangalore Tribunal has held that the software is only licensed for use without granting any license over the copyrights. The viewing card, STB, and the software to run it are compiled as an integrated system. While determining the tax implications, one has to look at the real nature of the transaction upon reading the agreement as a whole. Furthermore, as per the agreement no license whatsoever is granted over using the IPR in the software. License is to only use software to enable using the accompanying hardware as part of an integrated system.

Thus, the supply of software and hardware as an integrated system is akin to a supply of goods and not Royalty. The Tribunal has placed reliance on the Hon’ble Supreme Court’s judgments in the case of Engineering Analysis, Ericsson and Nokia.

Our Comments

The Bangalore Tribunal, while deciding on the matter, has appreciated the fact that while deciding on taxability considering the real nature of the transaction basis, the holistic reading of the agreement is of paramount importance.

Transfer Pricing

Whether payment of Royalty to an AE be benchmarked on an aggregation or standalone basis?

Johnson Matthey Chemicals India Private Limited [TS-541-ITAT- 2021(PUN)-TP]

Facts

The taxpayer is engaged in the business of manufacturing catalysts. During the course of the TP assessment proceedings for AY 2013-14, the taxpayer made payment to its AE in the UK against receipt of various intragroup services in the nature of Strategy, Finance, Human resources, IT support, etc.). Furthermore, the taxpayer made a payment towards Royalty for the technology license, which it availed from its AE. The taxpayer, during the assessment proceedings, had provided documentary evidence in the form of e-mail correspondence between local and regional personnel in order to substantiate receipt of the said services from AE.

However, the Transfer Pricing Officer (TPO) did not find the said evidence submitted by the taxpayer as sufficiently acceptable and disallowed the entire payment in relation to the intra-group services availed by the taxpayer from its AE. Furthermore, the TPO disallowed the taxpayer's payment towards Royalty as no separate benchmarking was undertaken (it was aggregated with the transaction pertaining to purchase of raw material), and no inter-company agreement was submitted.

Aggrieved by the TPO’s order, the taxpayer filed an appeal before the Commissioner of Income-tax [CIT(A)] wherein CIT(A) was not in agreement with the approach adopted by the TPO in relation to the intra-group services the taxpayer had availed from its AE and also the transaction pertaining to payment of Royalty.

Aggrieved by the CIT(A)’s order, the Department filed an appeal before the Income Tax Appellate Tribunal (ITAT).

Ruling by ITAT

The ITAT acknowledged that the taxpayer had provided sufficient documentary evidences (e-mails, agreement, etc.) to support the payment made towards the intra-group the taxpayer has availed and hence was in agreement with the approach adopted by the CIT(A).

In relation to the determination of ALP for the payment of Royalty, the ITAT observed that the said Royalty payment has to be benchmarked separately and cannot be aggregated with the payment for the purchase of raw materials. Accordingly, the ITAT restored the matter back to TPO to determine the ALP.

Our Comments

From a judicial standpoint, there are a plethora of tax judgments wherein the Tax Authorities at various levels have insisted on the benefit test to be applied on all significant intra-group service payments and have asked for supporting evidence in relation to the said transaction. Thus, it is vital for the taxpayer to maintain the necessary documentation.

Furthermore, as a common practice, it is observed that for transactions pertaining to payment of Royalty, benchmarking is usually undertaken by conducting an internal or external comparability analysis and not by aggregating it with other inter-company transactions.

Whether ALP can be determined by comparing two controlled transactions and be determined by any method that is not covered u/s 92CA?

Atlas Copco (India) Limited [TS- 565-ITAT-2021(PUN)-TP]

Facts

The taxpayer is engaged in manufacturing and sale of Air & Gas Compressors, Construction and Mining Equipment & Industrial. During the year under consideration, the taxpayer paid Royalty at 5% of domestic sales and 8% on export sales to its AE in consideration of receipt of technology in the form of know-how, technical training and technical assistance for the purpose of manufacturing compressors. The taxpayer aggregated the said royalty payment with other international transactions and benchmarked the same using Transactional Net Margin Method (TNMM).

However, the TPO did not accept the said approach of the taxpayer in relation to the royalty transaction and proceeded to determine the ALP by considering the royalty rate by another AE at 3% on the net sales price. However, the CIT(A), taking into account similar facts in the case of the taxpayer for earlier years, deleted the adjustment made by the TPO.

Furthermore, the taxpayer also received sales commission for rendering indenting/marketing services to AE during the year under consideration. The TPO recomputed the ALP for sales commission basis percentage of marketing cost to the total cost, wherein the TPO deducted the cost of materials and depreciation from the total cost with the rationale that the said costs do not contribute to the profits.

However, the CIT(A), taking into account similar facts in the case of the taxpayer for earlier years, deleted the adjustment made by the TPO.

Aggrieved by the decision of CIT(A), the Department filed an appeal before the ITAT.

Rulings of ITAT

Payment of Royalty

The taxpayer had relied on the Indian govevrnment’s policy regarding the payment of Royalty under Foreign Technology Collaboration Agreement. The taxpayer also submitted a copy of the Press Note No.8 dated 16 December 2009, according to which the terms of which payment of Royalty at 5% domestic sales and 8% of exports is permitted under automatic approval. Furthermore, the taxpayer also placed emphasis on its own case for earlier assessment years wherein the Tribunal had held that comparison of one controlled transaction could not be made with another controlled transaction.

The Tribunal, while passing the order, relied on the above findings and dismissed the appeal filed by the Department in this regard.

Receipt of sales commission

The Tribunal further relied on the judgment of its Co-ordinate bench in the taxpayer’s own case wherein the Tribunal observed that the TPO had not adopted any of the methods prescribed under Rule 10B. The Tribunal also applied the ratio of the decision of Bombay HC in the case of CIT Vs. Kodak India (P) Ltd., wherein it was observed that the method adopted by the TPO to compute the ALP was not in line with the provisions under the India Transfer Pricing regime. In view of the same, the Tribunal, while passing the order, relied on the above findings and dismissed the appeal filed by the Department in this regard.

Our Comments

ITAT has specifically placed significance on the methods prescribed by law for the determination of ALP. ALP should be determined only by using the methods prescribed by the TP provisions. Also, the ITAT emphasized the fact that for the purpose of comparability analysis, one can only compare a controlled transaction with an uncontrolled transaction.

Indirect Tax

Whether the assessee was entitled to refund of output tax liability paid in cash owing to nonoperationalization of Form GSTR- 2A and Circular No. 26/26/2017- GST dated 29 December 2017?

Note: Delhi HC had allowed the assessee to claim a GST refund of INR 923 Cr. upon rectification of returns. As per the HC, the non-operability of Form GSTR-2A resulted in a payment of double tax and unfair advantage to the tax authorities because of their failure to operationalize the statutory forms.

Union of India vs. Bharti Airtel Limited [TS-555-SC-2021-GST]

Facts

  • Due to the non-functionality of Form GSTR-2A during the period July 2017 to September 2017, the assessee had to discharge its output tax liability in cash.
  • After Form GSTR-2A became operational in September 2018, the assessee realized that it had sufficient ITC balance in Electronic Credit Ledger during the relevant period.
  • According to the assessee, had Form GSTR-2A been functional, there would have been no need to pay the amount in cash, and therefore, it urged to be allowed to rectify Form GSTR-3B so as to avail ITC for the relevant period in terms of Circular No. 7/7/2017-GST dated 1 September 2017. However, Circular No. 26/26/2017-GST (impugned Circular) came in the way of the assessee in doing so.
  • Therefore, the assessee approached Delhi HC, which did not set aside the impugned Circular but read down only Para 4 therein to the extent it restricted the rectification of Form GSTR-3B in respect of the period in which the error had occurred.
  • Challenging the same, the Revenue approached the Supreme Court.

Judgment

  • The assessee cannot be fully dependent on the auto-generated information on the common electronic portal for discharging its obligation to pay the output tax liability.
  • A registered person is obliged to do a self-assessment of ITC and output tax liability basis the books of accounts and records. The position of self-assessment in the pre-GST realm, when no such auto-populated electronic data was in vogue, needs to be carried in the post-GST realm too.
  • For ascertaining output tax liability, the primary source is agreements, invoices/challans, receipts of goods and services and books of accounts maintained manually/electronically and not the information in the common portal, which only acts as a facilitator to feed or retrieve information.
  • Section 39(9) allows rectification of omission and incorrect particulars in the period in which these omissions, etc., are noticed. This very position has been restated in the impugned Circular.
  • Paying output tax liability in cash is an option exercised by the assessee which cannot be reversed unless the law permits such reversal and swapping of entries. No provision exists in GST law to permit swapping of entries effected in Electronic Cash Ledger vis-à-vis Electronic Credit Ledger or vice versa.
  • The assessee cannot be permitted to unilaterally carry out rectification of his returns submitted electronically in the Form GSTR-3B. This would inevitably affect the obligations and liabilities of other stakeholders because of cascading effect in their electronic records, which would lead to uncertainty and chaos.
  • Apex Court set aside the HC judgment and upheld the validity of the impugned Circular.

Our Comments

While the Apex Court is not completely incorrect, the judgment could have wider ramifications.

On the one hand, the judiciary has invalidated the reliance on GSTR-2A treating the same as a mere ‘facilitator’; however, on the other hand, availment of ITC basis the supplies appearing in GSTR-2A is being mandated through Rule 36(4) of CGST Rules, 2017 and the proposed amendment to Section 16(2) of CGST Act, 2017.

Notices are being issued to taxpayers on mismatches between ITC as per GSTR-2A vs. GSTR-3B, credit is being blocked if the same does not reflect in the GSTR-2A statement.

This judgment could now allow taxpayers to litigate the notices, basis the noting that the primary source of self-assessment should be the books of accounts and records.

Whether ‘procurement operations’ and ‘procurement transformation & central services’ undertaken by the appellant in India for its foreign holding company would constitute a supply of “intermediary services” under the GST law?

Note: Karnataka AAR had held that the activities performed by the applicant satisfy the definition of “intermediary”, as specified under Section 2(13) of the IGST Act.

M/s Airbus Group India Pvt. Ltd. [2021 (11) TMI 816 –AAAR, Karnataka]

Facts

  • The appellant has entered into an Intra-Group Services Agreement with its parent entity, viz. Airbus Invest SAS, France, which essentially entails procurement of raw materials from Indian vendors and facilitating a supply abroad. For said services, the appellant is remunerated on a cost-plus mark-up basis.
  • As per the appellant, it provided ‘export of services’ since its role is limited to information gathering and identification of potential suppliers of aircraft parts and doesn’t amount to ‘arrangement’ or ‘facilitation’ of main supply.
  • Applying the principle of ‘ejusdem generis’ to interpret the phrase “any other person, by whatever name called,” the appellant argued that the scope of “intermediary” would be limited to only such persons who act similar to an ‘agent’ or a ‘broker’ or such class of individuals.

Ruling

  • The definition of “intermediary” in Section 2(13) of the IGST Act does not limit its coverage to a ‘broker’ and a ‘agent’, which are fundamentally different. Although the terms broker, agent, and intermediary may seem to be in proximity in common parlance, they do not form any category or class, nor do they constitute a genus under the GST law and, thus, the principle of ejusdem generis would not apply. The definition is to be interpreted to include persons who are not necessarily similar to ‘broker’ or ‘agent.’
  • As per the Agreement, the appellant is responsible for providing Airbus, France, with complete information about potential Indian suppliers and therefore, the said activity amounts to arranging the main supply between two principals, viz. Indian supplier and Airbus, France.
  • The illustrations in Circular No. 159/15/2021-GST are not exhaustive but only indicative, and determination of whether a particular activity is “intermediary service” would depend upon the facts of the case and the nature of the contract/agreement entered into.
  • The phrase “such goods or services” in the last limb of the definition implies that the person should not be supplying on his risk and reward entirely, the very goods or services whose supply he is arranging or facilitating.
  • The basic characteristics of “intermediary” as laid down in the said Circular exist in the present case, and since the appellant is only arranging and facilitating the main supply of goods between the principal and the Indian supplier without undertaking the main supply on its own account, it is clearly paying the role of ‘intermediary.’

Our Comments

While the Central Board of Indirect Taxes and Customs (CBIC) has clarified the scope of “intermediary services,” the ruling re-emphasizes the importance of facts and nature of contract/agreement between the parties to determine whether a particular activity indeed falls within the ambit of “arranging” or “facilitating” the main supply.

With business complexities warranting an assortment of work to be undertaken, it would be imperative to have an agreement clearly detailing the precise scope of services.

Merger & Acquisition Tax

Gujarat HC: Pursuant to the National Company Law Tribunal’s (NCLT) approval of the scheme, the revised return can be filed even if the due date for filing has surpassed

Deep Industries Limited [TS-1056-HC-2021(GUJ)]

The assessee, Deep Industries Limited, decided to demerge its Oil and Gas services business. Thus, a scheme of arrangement was formulated, and a company application was moved before NCLT. The assessee filed its return of income for AY 2018-19 on 30 March 2019. The scheme of arrangement was sanctioned on 17 March 2020 with an appointed date 1 April 2017. Pursuant to NCLT’s order, the assessee physically filed a revised return of income on 28 July 2021. The Revenue did not consider the revised return filed by the assessee and made a protective assessment by making an addition of ~ INR 1.02 billion.

The HC ruled in favor of the assessee, laying down the following observations:

  • Delay in the filing of return was not due to an error or omission made by the assessee. As the order of NCLT came after the due date of furnishing the revised return, the assessee was not in a position to file the revised return, and hence the grievance of the assessee was genuine. The principal has been well settled by the Apex court in the case of Dalmia Power2.
  • The assessee had also raised a grievance via e- Nivaran facility, which was not addressed by the income tax portal, and therefore the assessee filed the return physically.
  • When the Revenue is desirous of operating in the regimes of electronic mode and faceless assessment, it shall need to improvise the software and allow the revised return more particularly, when the law has been made quite clear by virtue of the direction of the Apex Court.

Our Comments

This is clearly a case of uncalled litigation for settled matters. It is high time that the ITA is amended to permit the filing of revised returns beyond the due date in such instances and put a necessary platform in place.

Mumbai ITAT: Allows set-off of accumulated losses under Section 79 on change in shareholding since the beneficial ownership remains uninterrupted

Bechtel France SAS [TS-1057-ITAT- 2021(Mum)]

The brief facts of the case are that during the FY 2013-14, there has been a change in shareholding of the assessee company Bechtel France SAS. Post completion of assessment proceedings, CIT observed that the loss was erroneously allowed to be set off in view of a change in shareholding. It observed that prior to 1 January 2014, all the shares of the assessee company were held by BNT International Corporation, whereas w.e.f. 1 January 2014, all the shares were held by Bechtel Limited, which is the subsidiary company of BNT International Corporation.

The CIT, therefore, issued a show cause notice u/s 263, disallowing the set off of the brought forward losses amounting to ~INR 270 million under Section 79 of the Act.

The Tribunal ruled that Section 79 shall not be applicable in the present case citing the following observations:

  • As held in the case of Amco Power Systems3, a shareholding pattern is distinct from voting power in the company. In this case, though the shareholding of the assessee company has changed in form, but in substance, the voting power in the assessee company, which lies with Bechtel Limited (new shareholder), ultimately vests with its holding company BNT International Corporation.
  • The ultimate control over the assessee company remained with the same shareholders post transfer of the shares as it was a mere case of an internal restructuring.
  • Reliance is placed on the decision of Siemens India Ltd4 to hold that Revenue is obliged to take the view that is favorable to the assessee and not adverse. Accordingly, following the decision of the Karnataka HC in the case of Amco Power Systems as against the decision of Delhi High Court in the case of Yum Restaurants5, the proceedings initiated by CIT u/s 263 were quashed.

Our Comments

Mumbai ITAT, once again, has upheld the non-applicability of provisions of Section 79 where the ultimate shareholding remains the same.

2. Dalmia Power Limited [TS-785-SC-2019]

3. Amco Power Systems Ltd. (2015) 379 ITR 375 (Kar)

4. K. Subramanian & Anr. Vs. Siemens India Ltd. & Anr. (1985) 156 ITR 11 (Bom)

5. Yum Restaurants (India) Pvt. Ltd. [TS 5118-HC-2016 (New Delhi)-O]