IN THE ITAT DELHI BENCH ‘C’

Rolls Royce Plc

Deputy Director of Income tax, Circle 2(1), International Taxation, New Delhi

Section 148, read with sections 147 and 139 of the Income-tax Act, 1961 - Income escaping assessment - Issue of notice for - Assessment years 1997-98 to 2000-01, 2002-03 and 2003-04, - Whether at time of issue of notice under section 148, Assessing Officer is not expected to reach a final conclusion regarding exact quantum of income that has escaped assessment and a prima facie formation of an opinion that income chargeable to tax has escaped assessment would suffice - Held, yes - Whether failure to file return within time prescribed under section 139 would also attract provisions of section 147 - Held, yes - Assessee-non-resident company which was engaged in supply of its products to many government organizations in India did not file its return in respect of its activities carried out in India - Assessing Officer therefore, issued notice under section 148 to assessee on reasons that income had escaped assessment due non-filing of return - Whether notice under section148 was validly issued - Held, yes

Section 9 of the Income-tax Act, 1961 read with article 5 of the DTAA between India and United Kingdom - Income- Deemed to accrue or arise in India - Assessment years 1997-98 to 2000-01, 2002-03 and 2003-04 - Assessee, a non-resident company incorporated in U.K., supplied aero-engines and spare parts manufactured by it to many government organizations in India - An Indian company ‘R’ entered into an agreement with assessee for rendering various services, viz., organization of event and conference in India, media relation and administration support - A survey conducted upon ‘R’ further revealed that ‘R’ was not only assessee’s 100 per cent subsidiary but it also maintained a permanent office in India to undertake all such activities which were contained in said agreement - Whether on facts, it could be concluded that assessee not only had a business connection in India within meaning of section 9(1)(i) but also had a permanent establishment (PE) in India within meaning of article 5(1) of DTAA between India and U. K - Held, yes - Whether, therefore, income arising , to assessee from its operation in India would be chargeable to tax in India - Held, yes

FACTS

The assessee, a non-resident company incorporated in the U. K., supplied aero-engines and spare parts manufactured by it to many government organizations in India including ‘HAL’ but it did not file its returns. On scrutiny of records, the Assessing Officer came to the conclusion that the assessee was having a business connection in India under section 9 as well as (PE) Permanent establishment under article 5 of the DTAA between India and UK; that the said business connection and PE were in existence in India in the form of an Indian subsidiary company ‘R’, which was having its offices in India; that the marketing and sale of goods to Indian customers were carried out by the assessee through said ‘R’,. Consequently, he framed the assessee’s assessments under section 147 after issuing notice under section 148. Subsequently, survey operations were conducted at R’s premises to find out the exact nature of business activities carried out by ‘R’ and the assessee in India, which also substantiated Assessing Officer’s said conclusion. On appeal, the Commissioner (Appeals) held that the issue of notice under section 148 for framing assessment under section 147 was valid; that there was business connection in India and also the assessee had a PE in India within the meaning of article 5(1),5(2)(f) and 5(4) of the DTAA between India and UK consequently its income was taxable in India; that out of the global profits, in respect of sales effected in India, profit could be attributed to such Indian sales which would be 75 per cent of the profit attributable to such sales. The Commissioner (Appeals) also upheld interest levied by the Assessing Officer under section 234A and 234B on that account.

On second appeal:

HELD

As regards issue of notice under section 148, it was seen from the reasons recorded in that behalf that the Assessing Officer had a prima facie opinion which suggested that the assessee having established a subsidiary in India and through the activities of the subsidiary, it had business connection in India. Thus, the Assessing Officer had prima facie material in his possession for forming an opinion that income chargeable to tax had escaped assessment. Prior to issue of notice, no return was filed. At the time of issue of notice, the information in possession of Assessing Officer were the minutes of meeting between ‘HAL’ and the assessee. At the time of issue of notice under section 148, the Assessing Officer is not expected to reach a final conclusion regarding the exact quantum of income that has escaped assessment or even a final conclusion regarding chargeablity of such income to tax under the Act. A prima facie formation of an opinion would suffice. The fact that contracts were executed in India could reasonably lead to conclusion that income had accrued in India and was, therefore, chargeable to tax. In the instant case, in respect of activities being carried on in India, the return were not filed which lead the Assessing Officer to believe that income had escaped assessment due to failure on the part of assessee to file return of income. Failure to file return within the time prescribed under section 139 would also attract the provisions of section 147. Therefore, the validity of issue of notice under section 148 and consequent framing of the assessment under section 147 were to be upheld. [Para 17]

As regards the question as to whether there was any business connection in India within the meaning of section 9(1)(i), 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 particulars 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 which can be termed as business connection. [para 18]

The assessee entered into an agreement with ‘R’ whereby ‘R’ was to render certain services to the assessee, viz., organization of event and conference in India, media relation and administrative support. Prima facie the papers which were found during the survey would itself show the extent of work being handled by ‘R’ for assessee in India. ‘R’ was not only 100 per cent subsidiary of the assessee but also maintained permanent office in India to undertake all such activities which were contained in the said agreement. Thus, it could be concluded that the assessee had a business connection in India within the meaning of section 9(1)(i) and under the Act, its income was chargeable to tax in India arising out of such business connections. [para 19]

Regarding the question as to whether there was any PE in India within the meaning of Article 5(1), 5(2)(f) and 5(4) of the Indo UK DTAA even if there was business connection India.

The mere fact that an enterprise has a certain amount of space at its disposal which is used for business activities is sufficient to constitute a place of business. No formal legal right to use that place is therefore, required. Thus, for instance, a permanent establishment could exist where an enterprise illegally occupied a certain location where it carried on its business. Article 5(1) does not refer that the premises should belong to the assessee but if it is able to use the same, it is an identified and distinct location and on which he exercise the control, it will be considered as a PE within the meaning of article 5(1) of the DTAA. In the instant case, it was found that the premises though in the name of ‘R’ were being occupied for the business operation in India. The cost of maintenance of such premises were being paid for by the assessee. The premises were also available to all the employees of the assessee in respect of any business operations in India. Accordingly, it could be said that the assessee had a PE in India within the meaning of article 5(1) of the DTAA. [paras 20 and 21]

Since the assessee had a business connection in India as well as PE in India, the income arising from its operation in India were chargeable to tax in India. [para 23]

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, in a case of a business of which all the operations are not carried out in India, the income of the business deemed to accrue shall be only such part as is reasonably attributable to the operations carried out in India. Article 7 of the Indo UK DTAA provides a mechanism as to how the business profits of the permanent establishment is to be computed. [para 24]

As per para 4 of article 7, when the profits are to be attributed to the PE, it can be according to the law of the State where the PE is established. The assessee had not maintained separate books of account for the activities carried out in India. However, it was seen that the manufacturing of the goods dealt or traded in India were not manufactured in India. The manufacturing operation was carried on outside India. Manufacturing is one of the important and integral part of the total activities which contributes to the earning of income. The extent of assets used were irrelevant as in the instant case, the activity comprised of manufacturing and marketing. The marketing was in India. Therefore, the profit accruing directly or indirectly in respect of the marketing activities in India should be taxable in India. Under the Act read with rule 10 in a case in which the Assessing Officer is of the opinion that actual amount of the income accruing or arising directly or indirectly through or from any business connection in India cannot be definitely ascertained, for the purpose of assessment the same may be calculated at such percentage of the turnover so accruing or arising as may be considered reasonable, or in such other manner as the Assessing Officer may deemed suitable. The Supreme Court in the case of CIT v. Ahmed Bhai Umar Bhai & Co. [1950] 18 ITR 472 held that where the manufacture and sale of the goods were not carried out in the same State, the profit of a part of business, i.e., relating to manufacture of goods accrued at a place where manufacturing activities are carried out and, hence, not assessable in the other State where only trading activities are carried on. Therefore, 50 per cent of the profits was to be allocated towards manufacturing activity which could not be taxed in India as no such manufacturing activity was carried out in India. In respect of other activities apart from marketing of goods in India, the assessee had also carried out research and development activities outside India. R and D activities were on an ongoing basis which resulted into development of newer products. Therefore, 15 per cent of the profits was to be allocated to such R and D activities. Balance of the profit could be attributable to the marketing activities which were in India Through contracts were signed outside India yet the negotiations and other discussions were in India and, hence, all other profits could be said to accrue or arise into directly or indirectly through the operations of PE in India. Therefore, the Assessing Officer should adopt 35 per cent of the profits as against 75 per cent of the global profits in respect of sales effected in India as chargeable to tax in India. [para 24.1]

Charging of interest under section 234A and 234B were consequential in nature. The same were compensatory as well as mandatory in nature. The same might be charged as per law. [para 25]