Members of a consortium formed to bid and execute a project together cannot be treated as an Association of Persons

Transcription

1 Tax & Regulatory Services News Alert* 1 April, 2010 Members of a consortium formed to bid and execute a project together cannot be treated as an Association of Persons Background The Authority of Advance Rulings ( AAR ) in a recent ruling 1, on the facts of the case, held that the consortium formed to bid and execute a project for the Delhi Metro Rail Corporation ( DMRC ) cannot be treated as an Association of Persons ( AOP ) for the purpose of assessment under the Income-tax Act, 1961 ( the Act ). In giving its ruling, the AAR made a comparative analysis of the facts of this case vis-à-vis its earlier rulings on the same issue in the case of GeoConsult ZT Gmbh 2 (where the decision was against the assessee) and Van Oord Acz BV. 3 (where the decision was rendered in favour of the assessee). Facts Mitsubishi Corporation ( MC ) and Hyundai Rotem Company, Korea ( Rotem ),( the applicants ) together with Mitsubishi Electric Corporation, Japan ( MELCO ) and Bharat Earth Movers Ltd., India ( BEML ), formed a consortium ( MRMB Consortium ), to bid for a tender invited by DMRC. For this, a consortium agreement 4 ( CA ) was entered into by the members. MRMB Consortium was awarded the contract by DMRC for design, manufacture, supply, testing, commissioning, training and transfer of technology of Electrical Multiple Units ( EMUs ). The CA comprised of the terms for executing the project and laid down each member s responsibility as follows: Hyundai Rotem Co. Korea & Mitsubishi Co, Japan, In re AAR Nos of 2008 GeoConsult ZT Gmbh, Austria, In re [2008] 304 ITR 283 (AAR) Van Oord Acz BV., In re [2001]248 ITR 399 (AAR) 4 Subsequently replaced by a Supplementary Consortium Agreement, duly approved by DMRC *connectedthinking pwc

2 - Rotem would be responsible for the mechanical works - MELCO would be responsible for the electrical works - BEML would be responsible for localisation works - MC would act as the consortium leader and would be responsible for project co-ordination and contract / legal administration. Other important features of the CA were: Issue - The percentage participation ratio for each member was clearly laid down; - A specific declaration that the CA was not intended to create any partnership, joint venture ( JV ) or any other legal entity nor any continuing relationship among the members; - All the consortium members were jointly and severally liable for the undertaking of the contract; - BEML was the supplier of EMUs to DMRC, while Rotem / MELCO / MC were responsible for supply of equipments / materials to BEML. BEML would raise invoices on DMRC and the other consortium members would, in turn raise invoices on BEML; - MC, being the consortium leader, would collect the payment from DMRC and distribute the same among the members in the pre-agreed ratio. The advance ruling was sought on the following question: Whether the MRMB Consortium, which was formed to bid and execute the contract of DMRC, could be assessed as independent companies under section 2(31)(iii) of the Act or as an AOP under section 2(31)(v) of the Act. Applicant s contentions MRMB Consortium did not form an AOP especially for the reason that there was no agreement to share profits and losses or to jointly incur any expenditure. Revenue s contentions The MRMB Consortium has all the attributes of an AOP as laid down in the ruling in the case of GeoConsult ZT Gmbh (above). AAR ruling The AAR observed that there is no definition of AOP under the Act or under the general law and therefore, AOP characterization would depend upon the facts and circumstances of each case. The AAR referred to judicial precedents and observed that an association must be one, the object of which is to produce income, profits or gains 5. The AAR further observed that in the facts of the present case, there were certain points which supported the creation of an AOP viz., : - Joint participation in the tender process and execution of a single contract by the consortium; - Nomination of consortium leader and constitution of a Project Board, which comprised of Director of each member for overall planning, organizing, controlling and execution of the project; - Lumpsum payments were made to Consortium leader from time to time; - Bank guarantee on behalf of MRMB Consortium; - Joint and several liability of members towards DMRC; 5 CIT v. Indira Balakrishna [1960] 39 ITR 546 (SC)

3 - Risk and cost of reason of defect / damage cast on consortium and not on individual members; - Insurance of plant / rolling stock, etc., in the joint names of DMRC and MRMB Consortium. However, there were certain points which ruled out the inference of an AOP, viz., - Work undertaken and executed by each party was clearly demarcated; S. No. GeoConsult ZT Gmbh 1 The JV agreement clearly stated that members had established a JV for performing all the services to be undertaken for the project MRMB Consortium No such specific declaration in CA. Merely coming together and acting in co-operation with each other for executing a contract while each member works independently, does not necessarily constitute an AOP - Interchangeability or re-assignment of work and overseeing of each other s work was not possible; - As per the CA, each party did not act as an agent of the other; - Though the performance guarantee was given by MRMB Consortium, DMRC insisted on separate guarantee and undertaking from the parent company of each member; - Specific intention clause in the CA which declared that the consortium shall not be construed as creating a partnership, joint venture or other legal entity; 2 All the members of the JV had the skills to perform the services under the project 3 Each member had unrestricted access to any work carried out by other members of the JV and assistance / support was agreed to be provided to each other Scope of work of each member was specifically defined and was mutually exclusive. Each member had distinct skills to carry out his share of work The access to the work carried on by others or providing assistance to another did not arise - Though the gross revenue was shared in a pre-agreed ratio, the profits and losses were borne by individual members and common expenditure was not shared by them. Further, where a discount was given in the contract price, it was not an across-the-board discount and each member worked out its independent discount percentage; - The joint and several liability clause was introduced as a safeguard to DMRC to have better hold over consortium members. The AAR also distinguished the present case from the GeoConsult ZT Gmbh ruling as follows: 4 Also, work of one member could be reassigned to the other in case of breach 5 In case of insolvency of a member, the other members were to be irrevocably appointed to act for that member. Thus joint and several responsibility amongst the members was contemplated therein No interchangeability / overlapping of work was possible No substitution of any other member in place of an insolvent member

4 S. No. GeoConsult ZT Gmbh 6 No provision in the JV agreement specifying the intention of the parties not to create any partnership, JV or any other legal entity 7 No clause in the JV agreement stating that each member operates on its own account and shall not act as an agent of the other MRMB Consortium Specific intention clause present in the CA Such a clause was specifically included in the CA Conclusion The AAR has distinguished the facts against its earlier ruling in the case of GeoConsult ZT Gmbh. One of the major observations in this regard was clear demarcation of work amongst the consortium members and no overlapping / assignment of work. On the point of joint and several liability, the AAR observed that in the present case, the said clause was only to safeguard DMRC to have a better hold over the consortium members. The AAR, while rendering its ruling, has adopted a holistic approach and has considered the overall facts. This being a positive ruling will reduce the challenge from the tax authorities both during the proceedings under sections 195 and 197 of the Act and during the course of assessment proceedings of consortium members with similar facts. Further, this ruling will have a persuasive value on the pending matters before any appellate authority. The AAR also summarised the similarities with the ruling in the case of Van Oord Acz BV. (above) as follows: - The parties had specifically provided in the agreement that each party shall bear its own loss and retain its profits separately; - Specific intention clause (of not creating a partnership / JV / other legal entity) was present; - Separate scope of work undertaken by each member according to technical skills and no control / connection between the work of the JV members; - The association was for mutual benefit but did not constitute a single assessable unit on the facts of the case. On an overall consideration of the aforesaid observations and adopting a holistic approach, the AAR concluded that the factors that ruled out inference of the AOP were more glaring and conspicuous than the factors which supported the inference. Accordingly, it was held that MRMB Consortium could not be treated as an AOP and be assessed as such.

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