Tuesday, 14 May 2013

Taxation of foreign professional firms & concept of “force of attraction” under India-UK DTAA explained. Linklaters LLP 40 SOT 51 (Mum) held to be not good law

ADIT vs. M/s Clifford Chance (ITAT Mumbai Special Bench)






The assessee, a U.K. partnership firm of Solicitors, provided legal consultancy services in connection with different projects in India and claimed that the taxability of the income arising there from had to be processed under Article 15 (“independent professional services“) of the India-UK DTAA. The AO rejected the claim regarding applicability of Article 15 and held that as the assessee had a PE in India as per Article 5 and as the services had been rendered in India, the entire income was chargeable to tax in India under Article 7. In AY 1996-97, the Tribunal (82 ITD 106 (Mum)) accepted the claim of the assessee that if the aggregate period of stay of the employees/ partners did not exceed 90 days, the income was not taxable under Article 15 of the DTAA and if it exceeded that period, only the Indian activity was taxable u/s 9(i). The said verdict was affirmed by the Bombay High Court in 176 Taxman 485. Later, another Bench in Linklaters LLP vs. ITO 40 SOT 51 (Mum) held that as the aforesaid verdicts of the Tribunal & High Court in Clifford Chance turned on the basis that fees for technical services rendered outside India were not chargeable to tax u/s 9(1)(vii) and that they were not good law in view of the retrospective amendment to s. 9(1) by the Finance Act, 2010 w.e.f. 1.6.1976 which provided that “fees for technical services” would be taxable in India even if they were rendered outside India. In Linklaters LLP it was also held that the expression “directly or indirectly attributable” in Article 7(1) triggered the “force of attraction” rule and that the entire earnings relatable to the projects in India would be chargeable to tax in India. As there was doubt as to the correctness of the view in Linklaters, the Special Bench was constituted to consider two issues (i) whether the verdict of the High Court in Clifford Chance was good law after the retrospective amendment to s. 9 & (ii) whether the expression “directly or indirectly attributable to the PE” in Article 7(1) meant that the consideration attributable to the services rendered in the State of residence is taxable in the source State. HELD by the Special Bench:



(i) The view taken by the Tribunal and the High Court in Clifford Chance was that if Article 15 of the India-UK Treaty is not applicable because the stay of the partner exceeded 90 days, then the taxability of the income would be determined by s. 9(1)(i) of the Act. It was held that for determination of income u/s 9(1)(i), the territorial nexus doctrine plays an important part and if the income arises out of operations in more than one jurisdiction, it would not be correct to contend that the entire income accrues or arises in each of the jurisdictions. The High Court applied the law laid down by the Supreme Court in the context of s. 9(1)(i) that if all the operations are not carried out in the taxable territories, the profits and gains of business deemed to accrue in India through and from business connection in India shall be only such profits and gains as are reasonably attributable to the operations carried out in the taxable territories. Accordingly, the view expressed in Linklaters LLP that the judgment of the Bombay High Court is based on the premise of s. 9(1)(vii) and that the said premise no longer holds good in view of the retrospective amendment is not correct. The law laid down by the High Court continues to be good law;



(ii) As regards the rule of “force of attraction“, Article 7(1) provides that the profits of the UK enterprise “directly or indirectly attributable to the PE” may be assessed in India. The connotation of what is “directly attributable to the PE” is set out in Article 7(2) while the connotation of what is “indirectly attributable to the PE” is set out in Article 7(3). When the connotation of “profits indirectly attributable” to the PE is defined specifically in Article 7(3), one cannot refer to Article 7(1) of the UN Model Convention which is materially different from Article 7(1) & 7(3) of the India-UK DTAA. The reliance placed in Linklater on the UN Model Convention to come to the conclusion that the connotation of “profits indirectly attributable to PE” in Article 7(1) incorporates the “force of attraction” rule thereby bringing an enterprise having a PE in another country within the fiscal jurisdiction of that another country to such a degree that such another country can properly tax all profits that the enterprise derives from that country – whether the transactions are routed and performed through their PE or not – is clearly misplaced and not acceptable.

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