Supreme Court Revisits Taxability of Income from Permanent Establishments in India

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A Full Bench comprising of Justice R. F. Nariman, Justice Naveen Sinha and Justice B. R. Gavai heard the case of Director of Income Tax v. Samsung Heavy Industries.

Brief Facts of the Case

The Oil and Natural Gas Company (“ONGC”) had a contract with the Samsung Heavy industries (“Respondent”). The Respondent company, based in South Korea is subject to a Treaty, between both the countries to avoid double taxation of income. The contract was for a Project agreed earlier. The Respondent set up a project office in Mumbai. It was to only serve as a communication channel between the Respondent and ONGC. For an assessment year, the Respondent filed an Income Tax Return stating NIL profit.

The issue is about the Project Office opened at Mumbai by the Respondent Company. The question is, whether it can or cannot be said to be a “permanent establishment” within the meaning of Article 5 of the above stated Treaty?

The Income Tax Department questioned the same. The order of the Assessing Officer for Income Tax stated that the current project was a “single indivisible” Project. It attributed 25% of the revenues earned outside India, as being the income of the Respondent, subject to tax.

An appeal to Income Tax Appellate Tribunal and High Court was made. The Revenue authorities made the present appeal. It was to determine if the Respondent’s office is a permanent establishment under the Treaty and if so, whether it will be taxable.

Appellant’s Arguments

Shri N. Venkataraman learned Additional Solicitor General appeared for the Appellants. He stated that the project was one and indivisible. The entire revenue earned would be taxable in India. 25% of the gross revenue of the Respondent was because of the business carried out by the Project Officer of the Respondent. The Project Office at Mumbai was not a mere liaison office but was connected with the core business of the Respondent.

Respondent’s Arguments

Shri S. Ganesh, learned counsel for the Respondent relied on Articles 5 and 7 of the Treaty. He argued that the Project Office in Mumbai consisted of only two employees, neither of whom had any technical qualifications. The accounts show that the Project Office had not incurred any expenditure on the execution of the project.

Furthermore, he argued that even assuming that there is a permanent establishment in India through which the core business activity of the Respondent carried out, no taxable income can be attributed to it. This is because the audited accounts show that the project resulted only in losses.

Court’s Observations

The Bench analysed judgments to consider “fixed place” permanent establishments. This is under double taxation avoidance treaties between various countries.

For the applicability of Article 5(1) of the Treaty and the ascertainment of a “permanent establishment”, the first condition is that it should be an establishment “through which the business of an enterprise” is wholly or partly carried on.

Further, the profits of the foreign enterprise are taxable only where the said enterprise carries on its core business through a permanent establishment. Maintenance of a fixed place of business is of a preparatory or auxiliary character in the trade or business of the enterprise. Hence, it would not be considered to be a permanent establishment under Article 5 of the Treaty. Also, it is only a limited account of profits of the enterprise that may be taxed in the other State because of the permanent establishment.

Court’s Decision

No permanent establishment has been set up within the meaning of Article 5(1) of the Treaty. The Mumbai Project Office is not a fixed place of business through which the core business of the Respondent was wholly or partly carried on. The office is an auxiliary office, meant to act as a liaison office between the Respondent and ONGC.

Hence, the Court dismissed the appeal in favour of the Respondents.


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