From The Judiciary

Can a Service PE be created by way of a virtual presence as opposed to a physical presence in India?

Clifford Chance PTE Ltd TS-186-ITAT-2024(DEL)

Facts

The taxpayer, a resident of Singapore, provided legal advisory services and some services were partly rendered remotely from outside India. There were occasions when three employees physically traveled to India to render the services.

The taxpayer filed a NIL return of income in India, claiming a refund of taxes deducted at the source since, in the absence of a Permanent Establishment (PE), no income was taxable.

The Revenue contended that a virtual service PE was established in view of the physical and virtual presence of the company’s employees for rendering services to clients in India.

Held

The taxpayer contended that rendering services ‘within India’ is relevant for constituting a Service PE. Therefore, the physical presence of employees in India providing the services is relevant, not the duration of services, which may even include services provided remotely.

It was also contented that days spent by employees/other personnel in India while on vacation or for undertaking business development activities are to be excluded from calculating the Service PE threshold. In effect, only days when actual services are physically rendered in India are determinant for the constitution of Service PE.

The Delhi Tribunal held that the taxpayer does not constitute virtual service PE in India as the concept of virtual Service PE has not been officially endorsed by India, unlike Saudi Arabia. Furthermore, the Tribunal noted that there are no provisions for virtual PE under the India- Singapore Tax Treaty as well.

With respect to the creation of PE, the Tribunal observed that since the physical presence of employees in India (excluding holidays) did not exceed the threshold of 90 days, there was no Service PE constituted in India.

Our Comments

This case law provides an insight into the understanding of the virtual dimension of the concept of virtual PE. It also specifies that vacation days, business development days, and common days should not be included when determining the Service PE threshold under the tax treaties.

Can treaty benefits be denied despite residency as per Article 4 of the India-UK tax treaty?

UK Grid Solution Limited TS-215-ITAT-2024(DEL)

Facts

The taxpayer, UK Grid Solution Limited, is a UK tax resident and is engaged in designing, engineering, manufacturing, and supplying electric equipment. The taxpayer was awarded tenders by some of its clients and a single composite contract was divided into three contracts.

The Revenue held that the taxpayer chose to artificially segregate the contract to avoid PE status in India with the primary intention of avoiding taxes. The Revenue also held that the taxpayer was an undisclosed agent of GE Energy UK Ltd. Upon terms which provided that GE Energy UK Ltd. Received all income and paid all expenditures of the taxpayer. Hence, it was alleged that the taxpayer is not a beneficial owner of any income earned from its business activities as it was practically fiscally transparent even if the Tax Residency Certificate (TRC) suggested otherwise. Therefore, the taxpayer could not be treated as a UK tax resident and not entitled to any tax treaty benefits under the India-UK Double Taxation Avoidance Agreement (DTAA).

Held

The Delhi tribunal held that the taxpayer is a tax resident of the UK and is entitled to India-UK treaty benefits as UK tax authorities have issued TRC to the taxpayer, clearly stating that it is a tax resident of the UK.

It relied upon a coordinate bench ruling in the taxpayer’s own case for AY 2018-19 wherein it was held that: (i) the contract was not artificially split into three contracts, (ii) the assessee did not have a business connection, fixed place PE and construction PE in India, (iii) income derived by the assessee were from offshore supplies and not out of any construction, erection, testing or commissioning activities of a turnkey power project in India. Therefore, Section 44BBB is not applicable.

The Tribunal noted that the taxpayer was acting independently, with receipts and had paid taxes in India. It also noted that the taxpayer did not have any authority to conclude the contract and that the contract was awarded based on global bids. The Tribunal held that it could not be construed as DAPE in India.

Our Comments

The said case law highlights the issue of concerns around availing tax treaty benefits despite residency as per TRC. Central to this dispute is the interpretation of the concept of a Dependent Agent Permanent Establishment (DAPE) and whether the company's Indian associate meets the criteria to be classified as such an establishment.

Letter of Comfort cannot be treated as a Letter of Guarantee

Lupin Limited ITA No.77 / Mum / 2021

Facts

The taxpayer, having its Associated Enterprise (AE) in the Philippines, has issued a letter of comfort to its AE during AY 2013-14 towards credit facilities issued by ANZ Banking Group Ltd. (Bank) to its AE.

The Transfer Pricing Officer (TPO), during the course of the assessment proceedings, disregarded the submissions made by the taxpayer and re-characterized the Letter of Comfort issued by the taxpayer to the AE as a Corporate Guarantee and accordingly made an adjustment by adding 1.5% as a guarantee commission by placing reliance on the rulings¹ issued by Hon'ble Bombay High Court and Hon'ble Income Tax Appellate Tribunal (ITAT) of Mumbai.

The case was appealed before the Hon'ble Commissioner of Income Tax (Appeals) [CIT(A)], wherein the CIT(A) granted partial relief to the taxpayer on other issues; however, upheld the actions of the TPO by stating that the Letter of Comfort issued by the taxpayer is nothing but the guarantee given by the taxpayer and the taxpayer is having a financial obligation to the Bank.

Taxpayer's Contention before the Hon'ble ITAT

The taxpayer contended that the guarantee commission would be applicable only when the taxpayer is legally bound with a financial obligation to make good the losses in case of any default made by the borrower. The taxpayer placed reference on the Letter of Comfort stating that it only represents the taxpayer's intent and does not constitute any obligation on the taxpayer's part. It further stated that incidental benefit arising to the AE from the passive association with the group does not construe an arrangement that warrants receipt of any monetary consideration.

Held by the ITAT

It was observed that the letter of comfort submitted by the taxpayer in any manner does not create any financial obligation on the part of the taxpayer in case of default by the AE. The ITAT further drew attention to the Letter of Offer that was provided by the Bank to the AE, stating that AE shall prepay all its outstanding amount to the Bank if the taxpayer's stakes in its AE are reduced below 51%. This clearly states that the financial obligation has been imposed on the AE and not the taxpayer.

The Hon'ble ITAT further stated that the basic difference between the Corporate Guarantee and the letter of credit is that the corporate guarantee is the financial obligation passed on to the guarantor if the borrower defaults. However, the party issuing the Letter of Comfort would not be under any obligation to indemnify losses in case of any default made by the borrower. The Hon'ble ITAT also referred to the provisions covered under the Safe Harbor Rules wherein it is stated that the letter of credit is excluded from the definition of 'Corporate Guarantee' as covered under Rule 10TA of the Income-tax Rules, 1962.

With the above, the Hon'ble ITAT held that the Letter of Comfort could not be treated as a Corporate Guarantee and deleted the transfer pricing adjustment.

Our Comments

The said ruling outlines the taxpayer's need to maintain robust documentation and relevant evidence as a prerequisite to validate its determination of arm's length price for international transactions.

Furthermore, the taxpayer shall be mindful while laying down the terms of such Letter of Comfort so that it clearly defines the obligation of the borrower vis-à-vis the party issuing such letter wherein no explicit or implicit obligation is passed on to the party issuing such a Letter of Comfort.

Whether hostel accommodation services are eligible for exemption from GST?

Thai Mookambikaa Ladies Hostel vs. Union of India & Ors. [TS-157-HC(MAD)-2024-GST]

Facts

• In a batch of writ petitions challenging the decisions of the State Appellate Authority for Advance Ruling, the Madras HC had to decide whether private hostels providing residential accommodation and food to college students and working women were eligible to claim exemption from GST in terms of Sr. No. 12 of Notification No. 12/2017-Central Tax (Rate).
• According to the petitioners, their hostels fell within the purview of 'residential dwelling' occurring in Sr. No. 12 of Notification and, therefore, were exempted from the levy of GST. For this purpose, they relied on the CBEC's Education Guide for Taxation of Services, 2012, wherein the phrase "residential dwelling" was interpreted in normal trade parlance to mean 'any residential accommodation' but not including hotel, motel, inn, guest house, campsite, house lodge, house boat, or like places meant for temporary stay.
• The petitioners vehemently argued that 'hostel accommodation,' which falls within the purview of the Tamil Nadu Hostels and Home for Women and Children (Regulation) Act, 2014, could not be equated with 'hotel accommodation,' as sought to be done by the Appellate Authority.

Ruling

• Allowing the writ petitions, Madras HC held that the issue of levy of GST on residential accommodation should be viewed from the perspective of the recipient of services and not from the perspective of the service provider, who offers the premises on a rental basis.
• According to the Court, the terms "residence" and "dwelling" more or less have the same connotation in common parlance and therefore, no different meaning could be assigned to the expression "residential dwelling". Hence, the same includes hostels which are used for residential purposes by students of working women.
• While setting aside the advance rulings, the HC observed, "…in order to claim exemption of GST, the nature of the end-use should be 'residential' and it cannot be decided by the nature of the property or the nature of the business of the service provider, but by the purpose for which it used, i.e., 'residential dwelling' which is exempted from GST."
• Since renting out hostel rooms was exclusively for residential purposes, it fulfilled the condition prescribed in the exemption Notification viz. 'residential dwelling for residential purpose.'
• The Court further opined that the purpose of the exemption given in the Notification was only to lessen the tax burden on the dwellers, who are the tenants/occupants of the residential premises taken on rent.
• In this regard, reference was made to the Karnataka HC decision in the case of Taghar Vasudeva Ambrish vs. Appellate Authority for Advance Rulings, Karnataka and others [Manu/KA/0327/2022], wherein it was concluded that services provided by leasing out the residential premises as hostels to students and working professionals are exempted from GST.

Our Comments

The present ruling lays down some important principles/guidelines for determining the GST rates and taxability vis-à-vis the supply of services.

There has been an ambiguity around the entitlement of GST exemption to hostel owners, accommodation providers, and houses offering paying guest facilities and similar temporary stays. This decision should temporarily settle the disputes with the tax authorities.

It is pertinent to note that the Revenue has already approached the Apex Court to challenge the Karnataka HC judgment in the case of Taghar Vasudeva Ambrish. Hence, it is highly likely that Revenue will pursue further litigation in this instance as well.

It will be worthwhile if the GST Council steps in to provide certain clarity on the subject matter.