Mumbai Tribunal rules reimbursement of expenses on secondment of employees not FTS

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1 20 September mber 2012 EY Tax Alert Mumbai Tribunal rules reimbursement of expenses on secondment of employees not 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 summarises a recent ruling of the Mumbai Income Tax Appellate Tribunal (Tribunal) in case of Temasek Holdings Advisors (I) Pvt.Ltd. (Taxpayer) [1] on the issue of taxability of payments made by Taxpayer to its parent company in Singapore, i.e., Temasek Holding Pte. Ltd. (Sing Co) in relation to secondment of employees to India and certain other expenses incurred by Sing Co for the business of Taxpayer. The Tribunal ruled that payments made by Taxpayer towards salary and other employment costs of the seconded employees amount to reimbursement of expenses and not payments for any services rendered by Sing Co to Taxpayer. Such payments were not taxable in India as the same were reimbursement of expenses and were not fees for technical services (FTS) under the Income Tax Laws (ITL) or India Singapore Double Tax Avoidance Agreement (Singapore DTAA). Furthermore, since taxes had already been withheld on salary payments made by Sing Co to the seconded employees, there was no further withholding of taxes required when such amount was reimbursed by Taxpayer. Accordingly, such reimbursement cannot be disallowed in computation of income of Taxpayer. [1] [TS-418-ITAT-2013]

2 Background and facts Investment advisory services; Reimbursement of salary and employment costs of seconded personnel Taxpayer was an Indian company and a wholly owned subsidiary of Taxpayer provided investment advisory services to Sing Co which included identifying investment opportunities in India, evaluating and recommending potential investments, monitoring specified investments in India etc. Taxpayer was remunerated on cost plus mark up for such services rendered which was accepted to be at arm s length price (ALP). Taxpayer and Sing Co entered into an agreement under which Sing Co seconded two of its employees to India for assisting Taxpayer in rendering investment advisory services to Sing Co ( Secondment Agreement ). The pictorial presentation is as follows: Salary with TDS Taxpayer Employees Singapore India Secondment of Personnel allowable as a deduction while computing taxable business income of Taxpayer. Aggrieved by above, Taxpayer appealed before the First Appellate Authority which upheld the action of the Tax Authority. The matter was, thereafter, appealed before the Second Appellate Authority i.e., the Tribunal. Taxpayer s contentions It was not a case of Sing Co rendering any services to Taxpayer for which payment was received from Taxpayer. On the contrary, services were rendered by Taxpayer to Sing Co for which Taxpayer was admittedly remunerated at an ALP. The employees seconded to India worked exclusively for Taxpayer under the control and supervision of Taxpayer and did not render services on behalf of Sing Co. The terms of payment requires Taxpayer to bear the employee cost. Once it is accepted that the arrangement is that of secondment of employees, then payment from Taxpayer amounts to reimbursement of salary and other employment costs of the seconded employees and such reimbursement is not chargeable to tax in India. Tax Authority s contentions As per the secondment agreement, employees remained on the payroll of Sing Co which paid salary to such employees and also withheld taxes on such salary as required under the provisions of the ITL. Taxpayer reimbursed the cost of salary and other expenses relating to their employment to The reimbursements were made without withholding of taxes under the ITL. Tax Authority challenged the stand of Taxpayer and held that contractual payments made to Sing Co were for the services availed from Accordingly, such payments were taxable in India and in the absence of withholding of taxes, the payments were not The secondment agreement was unsigned and unregistered under the Indian laws. The same was not authentic and, hence, a colorable device intended to avoid tax liability in India. There is no employer-employee relationship between Taxpayer and the seconded employees. The privity of employment contracts lies with Sing Co and right of termination also lies with Under the secondment agreement, the employees are placed in India to render services to the Taxpayer on behalf of

3 Only a part of the employees time is spent in India. There are no details available with regard to allocation of salary amount and quantification of salary cost considered for the purpose of reimbursement. Rendering of advisory and managerial services by employees in India amounts to provision of services of technical or other personnel which is taxable as FTS under the ITL. Under the Singapore DTAA, it would be taxable in India either due to trigger of service permanent establishment (service PE) or as FTS as defined under the Singapore DTAA. Tribunal s ruling For the secondment agreement to be valid there is no requirement that it should to be registered under some Indian statutory law or need to have approval from the Government of India. If the Tax Authority had any doubt about the authenticity of the secondment agreement, it could have very well required Taxpayer to substantiate the same. This premise of the Tax Authority for coming to the conclusion that the secondment agreement is a colourable device cannot be upheld. The concept of secondment is that an employee is temporarily transferred to another job to a different party, for a defined period of time or for a specific purpose to work under control and supervision of the other company. The secondment is for the mutual benefit of the parties. This concept is prevalent in most part of the world. expenses disbursed by Sing Co on behalf of Taxpayer. Seconded employees are not rendering services on behalf of There is no arrangement of rendering of managerial or consultancy services by Sing Co, either directly or through the seconded employees. On the contrary, Taxpayer is rendering the services to Hence, payments made to Sing Co are not in the nature of FTS provisions under the ITL as well as the Singapore DTAA. Adverse ruling of the Authority of Advance Rulings in case of Verizon Data Services [2] [337 ITR 192] was distinguished on facts. In the case of Verizon, it was held that US company was rendering services through its employees to an Indian company and any payments in this regard were held to be taxable in India. As against this, in the present case, Sing Co is not rendering any service in India through the seconded employees. Taxes from salary were withheld by Sing Co while paying salaries to the employees. There cannot be a double deduction of tax deducted at source (TDS) once at the time of payment of the salary and again on the reimbursement made by Taxpayer to Accordingly, payment of salary and other employment costs as reimbursement of expenses are not taxable in India. Hence, disallowance of expense in the hands of Taxpayer for failure to withhold taxes cannot be accepted. In the present case, the seconded employees worked under the control and supervision of and for the business of Taxpayer. They worked exclusively for Taxpayer in its Indian operations only. Their services can be terminated by either party and the entire cost of employment of such employees is paid by Sing Co and reimbursed by Taxpayer as per the advice raised from time to time. Accordingly, payments by Taxpayer to Sing Co amount to reimbursement of [2] Please refer EY Tax Alert dated 31 May 2011 titled AAR rules reimbursement of seconded employee salary is fees for included services.

4 Comments Cross-border secondment of personnel between affiliates is not uncommon in multinational groups. Presence of seconded employees in India poses various tax challenges under the ITL as well tax treaties. Indian judiciary have given divergent views on the tax implications arising from the specific facts of each case. In the present ruling, Tribunal has ruled favourably in the facts under consideration and held that in a secondment arrangement, no services were rendered by the parent to the subsidiary when the parent seconded its employees who worked under the control and supervision of the subsidiary. Accordingly, employment costs of seconded employees incurred by the home country (legal) employer which are later recovered from host country employer amounted to reimbursement of expenses which did not trigger tax liability in India. This ruling may be useful for taxpayers to ascertain the tax impact of similar business arrangements.

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