Delhi Tribunal rules income of non-resident that is not attributable to PE in India shall still be taxable in India as FTS

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1 12 October 2016 EY Tax Alert Delhi Tribunal rules income of non-resident that is not attributable to PE in India shall still be taxable in India as FTS Executive summary Tax Alerts cover significant tax news, developments and changes in legislation that affect Indian businesses. They act as technical summaries to keep you on top of the latest tax issues. For more information, please contact your EY advisor. This Tax Alert summarizes a recent ruling of the Delhi Income Tax Appellate Tribunal (Tribunal) in the case of International Management Group (UK) Ltd. [1] (Taxpayer) where the issue before the Tribunal was on taxability of income received by the Taxpayer, which is not attributable to its Permanent Establishment (PE) in India. The Taxpayer had entered into a contract with the Board of Cricket Control in India (BCCI) for providing services related to assistance in establishment, commercialization and operation of the Indian Premier League (IPL) events. The Taxpayer rendered services through its employees in India and, thus, triggered a Service PE under the India-UK Double Taxation Avoidance Agreement (UK DTAA). However, a part of the services was rendered in South Africa, as certain IPL matches were relocated to South Africa. The issue under consideration was on taxability of the amount received from the BCCI for furnishing of services in South Africa. The Tribunal held that profits, only to the extent of the activities carried on by the Taxpayer through its Service PE, shall be taxable as business profits under the UK DTAA and the balance activities, which are not at all connected with the activities of the Service PE, shall be taxed as Fees for Technical Services (FTS) under the UK DTAA. Under the provisions of the Indian Tax Laws (ITL), the Tribunal ruled that the whole amount was taxable as FTS as the services provided by the Taxpayer were utilized by the BCCI for carrying on business in India and the source of income of the BCCI was in India. Accordingly, the services did not fall under the source rule exclusion [2] applicable to FTS under the ITL. [1] [TS-545-ITAT-2016] [2] If the fees for technical services that are payable in respect of services utilized in a business or profession carried on by such person outside India or for the purpose of making or earning any income from any source outside India, such income shall be excluded taxation in India.

2 Background Provisions of the ITL: Under the ITL, FTS is defined as consideration for rendering of any managerial, technical or consultancy services. However, if such fees are payable by a resident in respect of services utilized for a business or profession carried on by such resident outside India or for the purpose of making or earning any income from any source outside India, such income shall be excluded from taxation in India; popularly known as source rule exclusion. Provisions of the UK DTAA: Business profits of a UK enterprise will be taxable in India only if such enterprise constitutes a PE in India. In the context of furnishing of services, other than services in the nature of FTS, a Service PE is established if the services are furnished in India for a period aggregating 90 days or more within any twelve-month period. Separately, technical or consultancy services shall be taxable as FTS if such services make available technical knowledge, skill, experience etc., to the recipient of the services. However, where a right or property or contract for which the FTS is paid is effectively connected with a PE through which the beneficial owner of the income carries on business in the source state, then such FTS would be taxed as business profits and taxation as FTS would cease to apply. Facts of the case The Taxpayer, a UK tax resident, is engaged in the business of event management and talent representation activities in sports events. The Taxpayer entered into a memorandum of understanding (MoU) with the BCCI (an Indian entity) in 2007 for assistance in establishment, commercialization and operation of the IPL events. The services under the MoU, inter alia, included advising and assisting the BCCI in connection with the structure of the league, league rules and regulations, franchisee agreements, legal implementation budget and media rights agreements, trading and auction of the players, hospitality guidelines in relation to the league, and provision of legal handbooks. The Taxpayer was also engaged to provide global best practices in building and evaluating sporting properties and related aspects. Based on the MoU, a service contract was entered into between the Taxpayer and the BCCI for holding the IPL from January 2009 (IPL 2009) and subsequent nine seasons of the IPL. For this purpose, the Taxpayer had deputed its employees and other third party freelancers for undertaking the onground implementation and event management and supervision activities in India exceeding 90 days. However, due to certain political reasons in India, IPL 2009 was decided to be held outside India (i.e., in South Africa) and, hence, third parties and employees moved out of India to South Africa for rendition of the agreed services. In the current case, as the length of stay of such staff etc., exceeded 90 days in India, the Taxpayer constituted a Service PE in India. Accordingly, out of the entire amount received by the Taxpayer from the BCCI for IPL 2009, only profits which were attributable to the Service PE, based on its function performed, assets used and risks assumed, were offered to tax in India by the Taxpayer. The balance amount pertaining to services rendered from outside India was claimed to be non-taxable due to the following reasons: Once the Service PE is constituted in India and such services are effectively connected to the PE, there cannot be any further chargeability with respect to FTS, as both are mutually exclusive. The services rendered do not make available technical knowledge, skill etc., and, hence, the FTS taxation condition under the UK DTAA is not fulfilled. Additionally, protection was sought under the provisions of the ITL-source rule exclusion, as the service had been utilized by the BCCI in South Africa and,

3 accordingly, the source of income for the BCCI was outside India. However, the Tax Authority was of the view that the balance amount received by the Taxpayer was also taxable in India as FTS under the ITL, as well as under the UK DTAA. The Appellate Authority [3] directed that the balance consideration was taxable as FTS on a protective basis. Furthermore, on a substantive basis, it directed that the above sum be regarded as business income to be attributed to the PE. Aggrieved, the Taxpayer, as well as the Tax Authority, preferred an appeal before the Tribunal. Tribunal s ruling The Tribunal upheld that the balance amount of consideration was chargeable to tax in India as FTS. The Tribunal noted the following on various aspects: On effective connection: For income in the nature of FTS to be regarded as effectively connected with the PE, the following should be established: The PE is engaged in the performance of all those services or should be involved in actual rendering of such services, or The PE should arise as a result of the activities of the PE, or The PE should, at least, facilitate, assist or aid in the performance of such services, irrespective of the other activities that the PE performs. The term effectively connected should not be understood to mean the opposite of legally connected but, rather, something in the sense of really connected. Therefore, the activities mentioned in the contract should be connected to the PE, not only in form but also in substance. The phrase attributable to is used in the Business Profits whereas effectively connected with is used in the FTS of the UK DTAA. However, there is no distinction between the two phrases effectively connected with and attributable to used into two different s of the UK DTAA because the India-US DTAA uses the same term attributable to in place of effectively connected with in its FTS. In the contract under consideration, activities carried out in India by the Taxpayer outside India were not concerned with the functioning of the PE but were carried out by the head office of the Taxpayer. Thus, the contention of the Taxpayer that the contract with the BCCI itself was effectively connected with the PE in India and, hence, the whole of the revenue involved in the contract should be considered as effectively connected and only profits attributable to the PE should be considered taxable in India, was rejected by the Tribunal. On interplay between FTS and Business Profits s of the UK DTAA: Under the FTS of the UK DTAA, there are two conditions mentioned for taxability of FTS under the Business Profits : If the FTS arises through a PE, and If the right property or contract in respect of the FTS is effectively connected with the PE. If the FTS fails to satisfy the above conditions, income shall be chargeable under the FTS. In the facts of the case, activities which are performed by the head office of the Taxpayer directly from outside India cannot be considered as effectively connected with the PE in India and the same shall be chargeable to tax as FTS. On make available condition In general, make available is used in the sense of one person supplying or transferring or imparting technical knowledge or skill or technology to another, and technology is considered made available only when the service recipient is enabled to absorb and apply the technology contained therein. [3] Dispute Resolution Panel

4 In order to satisfy the make available test, the technical knowledge, experience, skill etc., must remain with the service recipient even after the rendering of the services has come to an end and the service receiver is at liberty to use the technical knowledge, skill, know-how and processes in his own right. In the present case, the BCCI is enabled to absorb and apply the information and advice provided by the Taxpayer to it for conducting such sporting events. The documentation and material provided enables the BCCI to use the know-how and documentation independent of the services of the Taxpayer in the future. Furthermore, it may not be appropriate to say that in the absence of the Taxpayer, the BCCI on its own cannot hold/organize the IPL tournament. Merely because the BCCI has entered into a contract for conducting nine further events, does not lead to the conclusion that the information documentation, agreements, contracts etc., cannot be said to be made available. Thus, the services provided by the Taxpayer to the BCCI satisfy the make available test and such fees are taxable as FTS under the UK DTAA. to PE) is chargeable to tax as FTS under the ITL. Conclusion Based on the above, the Tribunal held that the balance amount received by the Taxpayer was taxable as FTS under the ITL, as well as the UK DTAA. Accordingly, the views of the Taxpayer, the Tax authority, the Appellate Authority and the Tribunal may be summarized as under: Particulars Taxpayer Tax Authority Income Business Business attributable Profits Profits to PE in India Income not attributable to PE in India Not taxable in India Taxable under FTS Appellate Authority Business Profits Taxable under Business Profits Tribunal Business Profits Taxable under FTS Source rule exclusion: For application of source rule exclusion for technical services under the ITL, the following conditions should be satisfied: The taxpayer must be a resident in India and carrying out business outside India. The payment for technical services is in respect of services to be utilized in the business carried out outside India by such taxpayer to a non-resident. In this case, it is an established fact that the BCCI is carrying on business in India and not outside India. Furthermore, the source of income of the BCCI is in India, and not outside India. The source of income of the BCCI cannot be regarded as being outside India merely because performance of the event was outside India. Therefore, even the balance amount (income other than income attributable

5 Comments This decision deals with the issues relating to taxation of FTS, as also business profits taxation, and rules that in cases where the income is effectively connected to a PE in India, it shall be governed by the Business Profits and, hence, shall be taxable on net basis (i.e., income less expenditure). However, the balance amount which is not connected to the PE can continue to be governed under the specific income i.e., FTS in the current case, and can be taxable in India on a gross basis. This ruling also provides that there is no difference between the terms effectively connected with and attributable to as these have been used interchangeably in India s DTAA. Accordingly, if a particular receipt is not taxable under the specific FTS of the DTAA on account of being effectively connected with the PE, the same will be taxable under the Business Income. Furthermore, this ruling also provides useful guidance on the interpretation of the term make available and holds that if the service recipient is enabled to absorb and apply the information and advice provided by the taxpayer for its future business activity, such services shall meet the make available test.

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