IN THE ITAT DELHI BENCH ‘B’

Galileo International Inc.

v.

Deputy Commissioner of Income-tax, Non-Resident Circle, New Delhi

D. R. Singh, Judicial Member

And Deepak R. Shah, Accountant Member

IT Appeal Nos. 2473 to 2475 (Delhi) of 2000, 1733 (Delhi) of 2001

And 820 to 823 (Delhi) of 2005

C. O. Nos. 47 to 54 (Delhi) of 2006

[Assessment Years 1995-96 to 1998-99]

November 30, 2007

Section 9, read with section 5, of the Income-tax Act, 1961 - Income - Deemed to accrue or arise in India - Assessment years 1995-96 to 1998-99 - Assessee- a foreign company had developed a fully automatic reservation and distribution system known as CRS with ability to perform comprehensive information, communication, reservation, ticketing, distribution and related functions on a worldwide basis - Through that system, assessee provided service to various participants, i.e., Airlines and hotels, etc., whereby subscribers/ Travel Agents (TAs) could perform functions of reservation and ticketing, etc. - For that purpose, it maintained and operated a Master Computer System (MCS) in USA which was connected to participating airlines/hotels servers’ from which data regarding flight schedules, seat/room availability, fare structure, etc., on a real time basis was continuously sent and obtained - For disseminating said data to various TAs in India, assessee entered into a distribution agreement with an Indian company ‘I’ - ‘I’ in turn, entered into a subscribers agreement with various TAs to provide them with access codes, equipment, communications link and support services - Assessee paid remuneration to ‘I’ for acting as its distributor and additionally bore all expenses for installation of equipment; i.e., computers at premises of TAs with requisite configuration /connectivity thereof - Assessee was also remunerated outside India only by airlines and it did not receive any remuneration from TAs - In respect of relevant assessment years, assessee filed its return declaring nil income on ground that no income accrued or arose to it in India nor could any such income be deemed to accrue or arise in India; in any event, it had no operations in India which gave rise to taxable income under section 5(2) or section 9(1)(i) - As per business model of assessee, all subscribers in respect of which income was held taxable were situated in India, equipment, i.e., computer in some cases and connectivity as well as configuration of computer in all cases were provided by assessee; request which originated from subscriber’s computer in India, ended at subscriber’s computer itself and on basis of information made available to subscriber, reservations were also possible; and but for request generated from subscriber’s computer’s situated in India, booking, which was source of revenue to assessee, was not possible - Whether in such a situation, there was a continuous seamless process involved, at least part of which was in India, thus, there was a direct business connection established in India and, hence, in terms of section 9(1)(i), income in respect of booking, which took place from equipment in India, could be deemed to accrue or arise in India and, hence, taxable in India - Held, yes - Whether since extent of work in India was only to extent of generating request and receiving end result of process in India, and major functions like collecting database of various airlines and hotels were processed at assessee’s host computer in USA, 15 per cent of revenue accruing to assessee in respect of bookings made in India could be reasonably attributed as income accruing or arising in India and chargeable under section 5(2) read with section 9(1)(i) - Held, yes - Whether, however, since remuneration paid to ‘I’ in respect of activities carried out in India had consumed entire income accruing or arising in India and further since entire payment made by assessee to ‘I’ had been allowed as expenses while computing its total income, in such a situation, in view of circular No. 23, dated 23-7-1969 no income could be further charged to tax in India - Held, yes

Circulars & Notifications - Circular No. 23, dated 23-7-1969

Article 5, read with Article 7, of the Double Taxation Avoidance Agreement between India and USA - Permanent establishment - Whether in view of facts under heading ‘income’, since CRS, which was source of revenue to assessee, was partially existent in computers installed at premises of subscribers, and when said computers could not be shifted from one place to another even within premises of subscriber, leave apart shifting of such computer from one person to another, assessee could be said to have exercised complete control over computers which would amount to a fixed place of business for carrying on business of its enterprise in India and, thus, assessee could be said to have established a PE within meaning of article 5(1) - Held, yes - Whether since function of PE in India was not to advertise products of assessee, instead, part of booking function was operated in India which directly contributed to earning of revenue, activities carried out by assessee in India were in no way of preparatory or auxiliary character and, thus, exception provided in article 5(3) would not apply and assessee would be deemed to have a PE in India - Held, yes - Whether since business of ‘I’ was to provide data processing and software development services together with relative distribution of assessee’s system to TAs in India and it had also an authority to enter into agreements with TAs, it could be said that functionally as well as financially, it was dependent entirely on assessee and, thus, was a dependent agent of assessee - Held, yes Whether since agreements entered into by ‘I’ with subscribers under an authority granted to it, were contracts relating to operations which constituted business proper and not merely in nature of internal operations, it was to be held that ‘I’ was dependent agent of assessee who had habitually exercised authority to conclude contracts on behalf of assessee - Held, yes - Whether in all circumstances only that much of profit as are arising due to assets and activities of PE can be brought to tax and if whole of activities of business are not carried out in India profit should be apportioned between that arising in India and that arising outside India - Held, yes

FACTS

The assessee-company, a resident of USA, was engaged in the business of maintaining and operating the system for providing electronic global distribution services to airlines, hotels, tour and cab operators by connecting to Travel Agents (TAs) utilsing a Computerized Reservation System (CRS). The said system might, inter alia, include a system which would receive, process, store and disseminate data about flight schedules, seat room availability, fare information and provision for booking capabilities, etc. The assessee entered into a Participating Carrier Agreement (PCA) with various participating airlines for providing them with said CRS services. For said purpose, it maintained and operated a huge Master Computer System (MCS) in USA, which was connected, inter alia, to airlines’ servers to/from which relevant data regarding flight schedules, seat availability, fare structures, flight connections, meal preferences, the availability of special facilities, e.g., infant/senior citizen requirements, etc., on a real-time basis was continuously sent and obtained. To market and distribute the CRS services to the TAs in India the assessee entered into a Distribution Agreement (DA) with an Indian company ‘I’. ‘I’, in turn, entered into a subscribers agreement with various TAs to provide them with access codes, equipment, communications link and support services. Further, the MCS of the assessee in USA was connected to TAs in India through a communications network arranged by a separate organization (‘SITA’) under an agreement between the assessee and SITA. The assessee at its own cost, had obtained connectivity services from its Data Centre in USA to, inter alia., the nodes of SITA in India. The assessee paid remuneration to ‘I’ for acting as distributor, and also paid SITA for the communication services which it provided. The assessee was also remunerated outside India only by the airlines and did not receive any remuneration from the TAs. For the assessment years 1995-96 to 1998-99, the assessee filed its return, declaring nil income on the ground, inter alia, that no income accrued or arose to it in India nor could any such income be deemed to accrue or arise in India; in any event, it had no operations in India which gave rise to taxable income under section 5(2) or section 9(1)(i). The assessee further contended that it did not have any Permanent Establishment (PE) in India within the meaning of article 5 of the DTAA between India and USA and, therefore, the booking fees received by it from the airlines outside India, being business profits, were not liable to tax in India under article 7(1) of said DTAA. The Assessing Officer, however, held that all the activities in respect of bookings made by the TAs in India were completed in India through the hardware installed at TA’s premises; that on that basis income accrued or arose in India under section 5; that even under the DTAA, the assessee had a PE in India under article 5 and so the income was taxable as business income under article 7; that the computers installed in India were a PE, that the assessee earned income on each segment booked through the computers installed in India and, therefore, the same constituted a PE. The Assessing Officer further held that ‘I’ was a PE of the assessee within meaning of article 5(4) since it was economically dependent on the assessee for its source of business and its activities were devoted wholly and exclusively for the assessee and since it entered into and concluded contracts on the assessee’s behalf. On appeal, the Commissioner (Appeals) upheld the impugned findings. He, however, accepted that under article 7(5) only that portion of the assessee’s income which could be regarded as derived from the assessee’s assets and activities in India could be taxed in India.

In second appeal, the assessee contended that the database relating to seat availability, etc., was on its MCS, which was located outside the taxable territories and, therefore, the services were rendered outside India and its income accrued outside India; that the booking was concluded and the assessee’s fee accrued, not when the TA clicked on his computer screen in India, but when the TA’s request was accepted on the Airline Server through the assessee’s CRS in USA, and that since the acceptance was not made in India the contract was not made in India. On the other hand, the revenue submitted that the purchase order was made by the subscriber in India, that booking was made in India, that sale of ticket by Airlines was made in India, that the contract (booking) between the subscriber and the Airlines was concluded in India, that the subscriber made the payment in rupees to the Branch office of the International Airlines in India or to a domestic airlines, and, thus, income accrued to the assessee in India from the bookings because of assets provided to the subscribers in India and the telecommunications infrastructure set up by the assessee in India at its own cost as also from the operations of ‘I’.

HELD

The scope of total income is described in section 5. As per section 5(2), the total income of a person, who is a non-resident, to the extent which is received or deemed to be received in India, or accrue or arise or deemed to accrue or arise in India is taxable in India. As per section 9(1)(i), all income accruing or arising whether directly or indirectly through or from any business connection in India shall be deemed to accrue or arise in India. As per clause (a), of Explanation 1, in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be such part of the income as is reasonably attributable to the operations carried out in India. Thus, as per the conjoint reading of section 5(2) and section 9(1)(i), only if the income is arising directly or indirectly through or from any business connection in India, can be taxed in India. The expression ‘business connection’ has a wide though uncertain meaning. It admits of no precise definition and the solution to the question must depend upon the particular facts of each case. Even the amended definition will not determine as to what constitute business connection as the same is not an exhaustive definition but is a definition which also include some of the activities to be termed as business connection. [Para 8.1]

As regards the issue as to whether the assessee had any income chargeable to tax in India under section 5(2) and whether the assessee had any business connection in India as per section 9(1)(i), the assessee had developed a fully automatic reservation and distribution system known as CRS system with ability to perform comprehensive information, communication, reservation ticketing, distribution and related functions on a worldwide basis. Through that system, the assessee provided service to various participants i.e., Airlines and hotels, etc., whereby the subscribers who were enrolled through the efforts of NMC could perform the functions of reservations an ticketing, etc.. Thus the said system or the CRS was capable of not only processing the information of various Airlines for display at one place but also enabled the subscribers to book tickets in a way which was a seamless system originating from the desk of the subscriber’s computer which might or might not be provided by the assessee but which in all cases were configured and connected to such an extent that such computers could initiate or generate a request for reservation and also receive the information in that regard so as to enable the subscriber to book the Airlines seat or hotel room. The request which originated from the subscriber’s computer ended at the subscriber’s computer and on the basis of information made available to the subscriber, reservations were also possible. It was to be noted that all the subscribers in respect of which income was held taxable were situated in India. The equipment, i.e., computer in some cases and the connectivity as well as configuration of the computer in all the cases were provided by the assessee. The booking would take place in India on the basis of the presence of such seamless CRS system. On the basis of booking made by the TAs in India, the income generated to the assessee. But for the booking no income accrued to the assessee. The contention of the assessee that the whole of the processing work was carried out at host computer situated in USA and only the display of information was in India for the proposition that there was no business connection in India, could not be accepted. The CRS extended to Indian territory also in the form of connectivity in India. But for the request generated from the subscriber’s computer’s situated in India, the booking was not possible which was the source of revenue to the assessee. The assessee was not to receive the payment only for display of information but the income would accrue only when the booking was completed at the desk of the subscriber’s computer. In such a situation, there was a continuous seamless process involved, at least part of which was in India and, hence, there was a business connection in India. The computers at the subscriber’s desk were not dumb or in the nature of kiosk incapable of performing any function. The computers along with the configuration had been supplied either by the assessee or through its agent ‘I’ and the connectivity being provided by the assessee enabled the subscribers to access the CRS and perform the ticketing and booking functions. Thus, there was a direct business connection established in India and, hence, in terms of section 9(1)(i), the income in respect of the booking which took place from the equipment in India could be deemed to accrue or arise in India and, hence, taxable in India. [para 8.2]

The next question, therefore, which arose was whether having held that there was business connection of India, how much income was chargeable to tax in India. As per section 9(1)(i), income accruing or arising whether directly or indirectly through or from any business connection in India shall be deemed to accrue or arise in India. As per clause (a) of Explanation 1 to section 9(1)(i) in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India. Thus, in a given case if all the operations are not carried out in India, the income has to be apportioned between the income accruing in India and income accruing outside India. In the instant case, only part of CRS system operated or functioned in India. The extent of work in India was only to the extent of generating request and receiving end result of the process in India. The major functions like collecting the database of various airlines and hotels, which had entered into PCA with the assessee took place outside India. The computer in USA processed various data like schedule of flights, timings, pricing, the availability, connection, meal preference, special facility, etc., and that too on the basis of neutral display real time on line took place outside India. The computers at the desk of TA in India were merely connected or configured to the extent that it could perform a booking function but were not capable of processing the data of all the airlines together at one place. Such function required huge investment and huge capacity, which was not available to the computers installed at the desk of subscriber in India. The major part of the work were processed at the host computer in USA. The activities in India were only minuscule portion. The assessee’s computer in USA was also responsible for all other functions like keeping data of the booking made worldwide and also keeping track of all the Airlines hotels worldwide that had entered into PCA. Though no guidelines were available as to how much should be income reasonably attributable to the operations carried out in India, the same had to be determined on the factual situation prevailing in each case. However, broadly to determine such attribution one has to look into the factors like functions performed, assets used and risk undertaken. On the basis of such analysis of functions performed, assets used and risk shared in two different countries, the income can be attributed. In the instant case, the majority of the functions were performed outside India. Even the majority of the assets, i.e., host computer which was having very large capacity which processed information of all the participants was situated outside India. The CRS as a whole was developed and maintained outside India. The risk in that regard entirely rested with the assessee and that was in USA outside India. However, it was equally important to note that but for the presence of the assessee in India and the configuration and connectivity being provided in India, the income would not have generated. Thus, the initial cause of generation of income was in India also. On the basis of said facts, 15 per cent of the revenue accruing to the assessee in respect of bookings made in India, could be reasonably attributed as income accruing or arising in India and chargeable under section 5(2) read with section 9(1)(i). [Para 9]

Regarding the question as to whether any income still was left to be taxed in India, if it was found that the income accruing in India was consumed by the payment made to the agents in India, the activities of the assessee in India were entirely routed through the efforts of ‘I’. ‘I’ was responsible for monitoring the activities of the subscribers enrolled in India. The request originated from the computers at the desk of TA was once again routed through the facility of processing such information at ‘I’. If ‘I’ would find that the subscriber accessing the CRS was authorised to do so, the request was further forwarded. ‘I’ was also responsible for establishing connectivity of the computers of the subscribers and maintaining them. ‘I’ was also responsible for training of the subscribers in respect of use of CRS. For all those services rendered by ‘I’ to the assessee, it was being paid remuneration in terms of distribution agreement. Broadly the assessee received three ‘Euros’ as fees per ‘net booking’, i.e., gross booking minus cancellation. The assessee passed one dollar to ‘I’ for each net booking processed through CRS by subscriber. Thus, in respect of the activities carried out in India and considering the income accruing in India, remuneration paid to the Indian agents consumed the entire income accruing or arising in India. It was also to be noted that the entire payment made by assessee to ‘I’ had been allowed as expenses while computing its total income. In such a situation in view of Circular No. 23 dated 23 -7-1969 no income could be further charged to tax in India. Therefore, in view of the said facts, no income was taxable in India. [para 10]

As regards the question as to whether the assessee had any PE in India within the meaning of article 5 of the DTAA between India and USA, article 5(1) gives a general definition of the term Permanent Establishment (PE) which brings out its essential characteristic of a PE in the sense of convention, i.e., a distinct site, a fixed place of business through which the business of an enterprises is wholly or partly carried on. Thus, what is to be seen is whether there is existence of a place of business, i.e., a facility such as a premises or in certain instances machinery or equipment. The place of business must be fixed, i.e., it must be established at a distinct place where a certain degree of permanence can be attached. Carrying on of the business of the enterprise should be through such fixed place of business. This means that the person who is in one way or the other dependent on the enterprise, conduct the business of the enterprises in which such fixed place is situated. The term place of business covers any premises, facility or installation used for carrying on the business of the enterprise, whether or not they are used exclusively for that purpose. A place of business may also exist where no premises are available or required for carrying on the business of the enterprise and it simply has a certain amount of space at its disposal. It is immaterial whether the premises, facilities or installations are owned or rented or are otherwise at the disposal of the enterprise. A place of business may, thus, be constituted by a pitch in a market place or by a certain permanently used area. The place of business can be situated in the business vicinity of .another enterprise. What is to be seen is that in fact an enterprise has a certain amount of space at its disposal, which is used for business activities and then it is sufficient to constirate a place of business. No formal legal right to use that place is visualized or required. A PE could exist even where an enterprise unauthorizingly or illegally occupies certain locations where it carried on its business. For a place of business to constitute a PE, the enterprise using it must be carrying on its business wholly or partly through it. It is not necessary that whole of the business should be carried on through such PE or fixed place. The assessee contended that for paragraph 1 of article 5 of the Treaty to apply, it must have a productive character, i.e., contribution to the profits of the enterprise. However, considering, article 5(1), it was not so mentioned within the framework of established business. It would be appropriate to presume that each part of the activities carried on contributed to the productivity of the whole. Thus, even if some contribution is made in carrying on the business as a whole, even then it can be said that the business of an enterprises would partly be carried on from such place and, accordingly, a PE of such enterprise. Where the business of an enterprise is carried on mainly by the entrepreneur or employees who receive instructions from the enterprise, the rights of such persons in its relationship with third parties are irrelevant. So far as article 5(1) is to apply, whether or not, the dependent agent is authorized to conclude contracts is irrelevant. So long as he operates from the fixed place of business. The PE will, nevertheless exist if the business of the enterprise is carried on mainly through automatic equipment and the activities of the personnel being restricted to setting up and operating such equipment. A PE will still exist if the enterprise which sets up machine also operates and maintains them for its own account and whether operated by itself or by a dependent agent. (Para 17)

In the instant case it was seen that the CRS, which was the source of revenue was partially existent in the machines, namely, various computers installed at the premises of the subscribers. In some cases, the assessee itself had placed those computers and in all the cases the connectivity in the form of nodes leased from SITA were installed by the assessee through its agent. The computers so connected and configured which could perform the function of reservation and ticketing was a part and parcel of the entire CRS. The computers so installed required further approval from the assessee, ‘I’ who allowed the use of such computers for reservation and ticketing. Without the authority of the assessee such computers were not capable of performing the reservation and ticketing part of the CRS system. The computer so installed could not be shifted from one place to another even within the premises of the subscriber, leave apart the shifting of such computer from one person to another. Thus, the assessee exercised complete control over the computers installed at the premises of the subscribers, which would amount to a fixed place of business for carrying on the business of the enterprise in India. But for the supply of computers, the configuration of computers and connectivity which its agent ‘I’ would amount to operating part of its CRS system through such subscribers in India and, accordingly, PE in the nature of a fixed place of business in India. Thus, the assessee could be said to have established a PE within the meaning of article 5(1).

As regards the question if there was a PE, whether the exception provided in article 5(3) would apply so as to hold that there was no PE in India, the case of the assessee was that the existence of such computers were merely for the purpose of advertising and the activities were preparatory or auxiliary in character and, hence, there was no fixed place PE in India in view of the exception provided in article 5(3). The said contention could not be accepted. The function of PE in India was not to advertise its products. The activity of the assessee was developing and maintaining a fully automatic reservation and distribution system with the ability to perform comprehensive information, communication, reservation, ticketing, distribution and related function on a worldwide basis. The computers installed at the premises of the subscribers were connected to the global CRS owned and operated by the assessee. Using part of the CRS system, the subscribers were capable of reserving and booking a ticket. Thus, it could not be considered as "solely for the purpose of advertising" of such CRS system. Similarly it was not in the nature of 'preparatory or auxiliary’ character. It is difficult to distinguish between the activities which are 'preparatory or auxiliary character and those which are not. The decisive criteria is whether or not the activity of the fixed place of business in itself forms an essential and significant part of the activity of the enterprise as a whole. Since part of the booking function was operated in India which directly contributed to the earning of revenue, the activities carried out by the assessee in India were in no way of 'preparatory or auxiliary' character. Thus, the exception provided in article 5(3) would not apply and the assessee would be deemed to have a PE in India. [Para 17.2]

As regards the question as to whether the assessee had a PE in India in the form of a dependent agent, it is commonly accepted principle that an enterprise should be treated as having a PE in a State if there is under it a person acting for it, even though the enterprise may not have a fixed place of business. Thus, there can be two forms of PE, (i) fixed place or (ii) through the dependent agent. An agent is a person employed to do any act for another or to represent another in dealing with third person. What an enterprise can do directly but if not so done directly but done through an agent appointed for the purpose it will be deemed to have been done indirectly. Even in such a situation it can be said that the enterprise carrying on the business through the efforts of such agent and, hence, can be said to have established a PE. In the instant case, the assessee availed the service of ‘I’ to promote the use or CRS in India and for that purpose to appoint subscribers in India. ‘I’ was authorised to enter into contract with the subscribers in terms of authority generated under DA. The assessee bound itself in respect of booking made by the subscriber using the CRS. Thus, what could have been done directly by the assessee was achieved through the service of ‘I’. Hence, ‘I’ was to be treated as agent of the assessee in India. Even though in the agreement between the assessee and ‘I’, the existence of agency was denied, yet that would not be conclusive if on facts it was found to be agency. That would be relevant only for the limited purpose of agreement between those two parties but not relevant for third parties if on facts the existence of agency was found. However, all the persons other than agent of an independent status cannot be deemed to be a PE of the enterprise. The agents can be considered as PE only and only if when a person other than agent of an independent status, (i) has and habitually exercise in that State an authority to conclude contract or (ii) though he has no such authority but habitually maintains stock of goods from which he regularly delivers goods on behalf of the enterprise. Thus, the firs question to be decided is whether the agent is of a dependent status or of an independent status. In the instant case, ‘I’ was totally dependent on the assessee in respect of rendering services to subscribers in India. Thus, that part of activities of ‘I’ which earned its revenue by rendering services to the subscribers was carried on solely for the assessee. Though ‘I’ might be carrying on any other activities, like a full fledged travel agency business, yet in respect of activity relating to installing CRS system of the assessee at subscribers’ computers providing connectivity, configuring the computers to enable it to access CRS, train the subscribers, etc., was only and only for the assessee. Such type of activities were not carried on for any other person. Hence, the assessee and ‘I’ were interdependent in that regard. The business of ‘I’ was to provide data processing and software development services together with relative distribution of the CRS to the subscribers in India. ‘I’ had also an authority to enter into agreements with the subscribers. ‘I’ installed the computers, configured the computers for accessing the CRS and also provided connectivity through SITA nodes. Thus, functionally as well as financially it was dependent entirely on the assessee. It could, therefore, be said that ‘I’ was a dependent agent of the assessee. [para 17.3]

As regards the question as to whether ‘I’ was habitually exercising an authority to conclude contracts on behalf of the assessee, under the DA entered into by the assessee with ‘I’, it was responsible for effecting and contracting with subscribers in the Indian territory and was to use reasonable efforts to provide access to all, the CRS out of Indian territory. Though the assessee and even the participating airlines were not party to the agreement entered into by ‘I’ with the subscribers, yet the assessee through the PCA had ensured that the subscribers were authorised to use the CRS. Under an authority granted to them, subscribers used such products. The reservations and ticketing done using the CRS product were being honoured by the participants and for which the remuneration was payable by the participants to the assessee. Thus, ‘I’ could be said to have and having exercised an authority to conclude contracts on behalf of the assessee. What the assessee could have done directly by entering into an agreement with the subscribers, was done through ‘I’. The subscribers agreement were entered into by ‘I’ under an authority available to it in view of the DA. What could have been done directly was done indirectly through the offices of ‘I’ under an authority granted to it. The phrase authority to conclude contracts on behalf of the enterprise does not confine to application of paragraph 4 to an agent who enters into contract literally in the name of enterprise. The paragraph applies equally to an agent who concludes contracts which are binding on the enterprise even if those contracts are not actually in the name of enterprise. What is relevant is that such contract shall have a nexus with the business operations as such and not merely contracts for hiring employees, premises etc. What is taxable in the contracting state is the income accruing to such enterprise and the activities are carried on either through the PE namely fixed place or through a dependent agent. The dependent agent is not to be considered as PE unless he has authority to conclude contract on behalf of such enterprise. The authority to conclude contracts must be in respect of contracts relating to operations, which constitute the business proper of the enterprise. The assessee in the instant case in order to enhance its business operations had appointed ‘I’ as its agent who promoted the CRS in India. ‘I’ in its turn had appointed various subscribers for use of the CRS. Though the revenue flowed only from participants who had entered into PCA with the assessee yet the revenue could not have been generated but for the subscribers using the CRS. In a way, the revenue was generated from the participants but only on the basis of use of CRS by the subscribers. But for such use no revenue would accrue to the assessee. Thus, the agreements entered into by ‘I’ with the subscribers under an authority granted to it, were contracts relating to operations which constituted business proper and not merely in the nature of internal operations. Such contracts were habitually exercised and there was nothing on record to suggest that such authority was cancelled at any point of time. Therefore, it was to be held that ‘I’ was dependent agent of the assessee who had habitually exercised the authority to conclude contracts on behalf of the assessee. To the extent that assessee had a PE in India. [Para 17.4]

Regarding the question as to whether the assessee had PE in India within the meaning of clause (b) of article 5 of the Treaty, clause (b) of said article would apply only where the dependent agent habitually maintains stock of goods from which he regularly delivers goods on behalf of the enterprise. In the instant case, the assessee was not dealing in any stock of goods. Since the assessee was not dealing in any goods, the question of delivery of such goods did not arise. The contention of the revenue that ‘I’ maintained stock of computers which were delivered to the subscribers should be treated as delivery of goods could not be accepted. The reference to ‘stock of goods’ in said clause has to be understood in the sense the business proper carried on by the enterprise. The delivery should be from the stock of goods which if considered in proper prospective will only be of the stock of goods dealt with by the assessee in regular course of its business. If the agent is to deliver the goods either the goods should be such in which the enterprise deals in or which are regularly hired out which may be considered as given on bailment from which the revenue is to be generated. But in the instant case the computers supplied by ‘I’ to the TAs were not dealt with by the assessee or which was by itself the source of revenue. Thus, said clause would not apply to consider the dependent agent as PE of the assessee in India. (Para 17.5)

Having considered that the assessee had a PE in India in two forms namely (1) fixed place PE under paragraph 1 of article 5 and (2) agency PE under clause (a) of paragraph 4 of article 5, the profit attributable to the PE in terms of article 7 of the DTAA between India and USA was to be examined. Further, it was to be examined whether the income so computed would be absorbed by the expenses incurred to earn such income which would prima facie extinguish the assessment. It is clear from article 7 that the profit of an enterprise will be taxable only to the extent as is attributable to that permanent establishment. This is in pari material with clause (a) of Explanation 1 to section 9(1)(i). Article 7(5) prescribes as to how the profits to be attributed to the PE is to be arrived at. It provides that only the profits derived from assets and activities of the PE shall be treated as attributable to the permanent establishment. The wording in the treaty are not to be interpreted like a provision of the statute. In a way there should be some rational connection between existence of PE and the profits from the asset and activities of the PE which can be brought to tax and no further artificial meaning should be given as to the clause ‘derived from’. However, in all circumstances only that much of the profit as are arising due to the assets and activities of the PE can be brought to tax and if whole of the activities of the business are not carried out in India, the profit should be apportioned between that arising in India and that arising outside India. Thus, where the entire activity of an enterprise are not carried out in a contracting state where the PE is situated, than only so much of the profit as is attributable to the functions carried through the PE can be taxable in such source state. While dealing with the question as to what was such part of income as was reasonably attributable to the operations carried out in India, it had been held that only 15 per cent of the revenue generated from the booking made within India was taxable in India. The same proportion had to be adopted while computing profit attributable to the PE. It had also been held that since the payment to the agent in India was more than what was the income attributable to the PE in India, it extinguished the assessment as no further income was taxable in India. Further, even in the first assessment framed by the Assessing Officer, the entire expenses in the form of remuneration paid to ‘I’ was held as allowable deduction and was reduced while computing the income of the assessee. If that be the case, the income attributable to PE in India being less than the remuneration paid to the dependent agent, it extinguished the assessment and required no further exercise for computation of income. Accordingly, the income of the assessee would be NIL. [Para 18]

In the result, the appeals by the assessee were to be partly allowed. [para 21]