ISHIKA WAJMA-HARIMA HEAVY INDUSTRIES LTD. v. DIRECTOR OF INCOME TAX, MUMBAI

75Copy pinpoint75. In cases such as this, where different severable parts of the composite contract is performed in different places, the principle of __; apportionment can be applied, to determine which fiscal jurisdiction can tax ! that particular part of the transaction. This principle helps determine, where G the territorial jurisdiction of a particular state lies, to determine its capacity to tax an event. Applying it to composite transactions which have some operations in one territory and some in others, is essential to determine the taxability of various operations. H

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76Copy pinpoint76. It is, therefore, in our opinion, the concepts profits of business connection and permanent establishment should not be mixed up. Whereas · business connection is relevant for the purpose of application of Section 9; the concept of permanent establishment is relevant for assessing the income Of a non-resident under the DTAA. There, however, may be a case where there can be over-lapping of income; but we are not concerned with such B a situation. The entire transaction having been completed on the high seas, the profits on sale did not arise in India, as has been contended by the appellant. Thus, having been excluded from the scope of taxation under the Act, the application of the double taxation treaty would not arise. Double tax Treaty, however, was taken recourse to by Appellant only by way of c an alternate submission on income from services and not in relation to the tax of offshore supply of goods.

77Copy pinpoint77. We would in the aforementioned context consider the question of division of taxable income of offshore services. Parties were ad idem that there existed a distinction between onshore supply and offshore supply. D The intention of the parties, thus, must be judged from different types of services, different types of prices, as also different currencies in which the prices are to be paid.

78Copy pinpoint78. Section 9{l)(vii)(c} of the Act states that "a person who is a non- E resident, where the fees are payable in respect of services utilized in a business or profession, carried on by such person in India, or for the purposes of making or earning any income from any source in India". Reading the provision in its plain sense, it can be seen that it requires two conditions have to be met - the services which are the source of the income F that is sought to be taxed, has to be rendered in India, as well as utilized in India, to be taxable in India. In the present case, both these conditions have not been satisfied simultaneously, therefore excluding this income from the ambit of taxation in India. Thus, for a non-resident to be taxed on income for services, such a service needs to be rendered within India, and has to be a part of a business or profession carried on by such person in India. G The Petitioners in the present case have provided services to persons resident in India, and though the same have been used here, it has not been rendered in India.

79Copy pinpoint79. Section 9(1)(vii) of the Act whereupon reliance has been placed by H the learned Additional Solicitor General, must be read with Section 5 thereof,

ISHIKAWAJMA-HARIMA HEAVY INDUSTRIES LTD. v. DIRECTOR OF INCOME TAX, MUMBAI [SINHA. JJ 159

which takes within itp purview the territorial nexus on the basis whereof tax A .- is required to be levied, namely, : (a) resident; and (b) receipt or accrual of income.

80Copy pinpoint80. Global income of a resident although is subjected to tax, global income of a non-resident may not be. The answer to the question would depend upon the nature of the contract and the provisions of DTAA. B

81Copy pinpoint81. What is relevant is receipt or accrual of income, as would be evident from a plain reading of Section 5(2) of the Act. The legal fiction created although in a given case may be held to be of wide import, but it is trite that the terms of a contract are required to be construed having c regard to the international covenants and conventions. In a case of this nature, interpretation with reference to the nexus to tax territories will also assume significance. Territorial nexus for the purpose of determining the tax liability is .an internationally accepted principle. An endeavour should, thus, be made to construe the taxability of a non-resident in respect of income derived by it. Having regard to the internationally accepted principle and DTAA, it may not be possible to give an extended meaning to the words 'income deemed to accrue or arise in India' as expressed in Section 9 of the Act. Section 9 incorporated various heads of income on which tax is sought to be levied by the Republic of India. Whatever is payable by a resident to a non-resident by way of fees for technical services, thus, would not always come within the purview of Section 9(1 )(vii) of the Act. It must have sufficient territorial nexus with India so as to furnish a basis for imposition of tax. Whereas a resident would come within the purview of Section 9( 1)(vii) of the Act, a non resident would not, as services of a non- resident to a resident utilize in India may not have much relevance in determining whether the income of the non-resident accrues or arises in India. It must have a direct live link between the services rendered in India, when such a link is established, the same may again be subjected to any relief under DTAA. A distinction may also be made between rendition of services and utilization thereof. G

82Copy pinpoint82. Section 9(1)(vii)(c) clearly states " .... where the fees are payable in respect of services utilized in a business or profession carried on by such person in India" It is evident that Section 9(l)(vii), read in its plain, same envisages the fulfillment of two conditions : services, which are source of income sought to be taxed in India must be (i) utilized in India and (ii) H .~,

160 SUPREME COURT REPORTS [2007] 1 S.C.R.

A rendered in India. In the present case, both these conditions have not been satisfied simultaneously.

83Copy pinpoint83. The provisions of Section 9(l)(vii) of the Act are plain and capable of being given a meaning. There, therefore, may not be any reason not to give full effect thereto. However, even in relation to such income, the B provisior.s of Article 7 of the DT AA would be applicable, as services rendered outside India would have nothing to do with permanent establishment in India. Thus, if any services have been rendered by the head office of Appellant outside India, only because they were connected with permanent establishment. Even in relation thereto, principle of apportionment c shall apply.

84Copy pinpoint84. The Authority, in our opinion, has committed an error in this behalf, as if ser".ices rendered by the head office are considered to be the services rendered by the permanent establishment, the distinction between Indian and foreign operations and the apportionment of the income of the operations D shall stand obliterated.

85Copy pinpoint85. It would be contrary to the intent and purport of the Double Taxation Convention which is a part of the scheme under the Income Tax Act. E

86Copy pinpoint86. We, therefore, hold as under :

Re : Offshore Supply :

F (1) That only such part of the income, as is attributable to the operations carried out in India can be taxed in India.

(2) Since all parts of the transaction in question, i.e. the transfer of property in goods as well as the payment, were carried on outside the Indian soil, the transaction could not have been taxed in India. G (3) The principle of apportionment, wherein the territorial jurisdiction of a particular state determines its capacity to tax an event, has to be followed.

H (4) The fact that the contract was signed in India is of no material

JSHIKAWAJMA-HARJMA HEAVY INDUSTRIES LID. v. DIRECTOR OF INCOME TAX. MUMBAI [SINHA, J] 161

consequence, since aII activities in connection with the offshore supply were outside India, and therefore cannot be deemed to accrue or arise in the country.

(5) There exists a distinction between a business connection and a permanent establishment. As the permanent establishment cannot be said to be involved in the transaction, the aforementioned provision will have no application. The permanent establishment cannot be equated to a business connection, since the former is for the purpose of assessment of income of a non-resident under a Double Taxation Avoidance Agreement, and the latter is for the application of Section 9 of the Income Tax Act. c (6) Clause (a) of Explanation 1 to S. 9(1)(i) states that only such part of the income as is attributable to the operations carried out in India, are taxable in India. D (7) The existence of a permanent establishment would not constitute sufficient 'business connection', and the permanent establishment would be the taxable entity. The fiscal jurisdiction of a country would not extend to the taxing entire income attributable to the permanent establishment. E (8) There exists a difference between the existence of a business connection and the income accruing or arising out of such business connection.

(9) Paragraph 6 of the Protocol to the DTAA is not applicable, because, for the profits to be 'attributable directly or indirectly', the permanent establishment must be involved in the activity giving rise to the profits.

87Copy pinpoint87. Re: Offshore Services:

(1) Sufficient territorial nexus between the rendition of services and territorial limits of India is necessary to make the income taxable.

(2) The entire contr:-ct would not be attributable to the operations in India viz. the place of execution of the contract, assuming the offshore elements form an integral part of the contract. H

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A (3) Section.9(l)(vii) of the Act read with Memo cannot be give.n a wide meaning so as to hold that the amendment was only to include the . ~-

income of non-resident taxpayers received by them outside India from Indian concerns for services rendered outside India.

(4) The test of residence, as applied in international law also, is that of the B taxpayer and not that of the recipient of such services.

(5) For Section 9(l)(vii) to be applicable, it is necessary that the services r- not only be utilized within India, but also be rendered in India or have "" such a "live link" with India that the entire income from fees as c envisaged in Article 12 of DTAA becomes taxable in India.

(6) The terms 'effectively connected' and 'attributable to' are to be construed differently even if the offshore services and the permanent establishment were connected.

D (7) Section 9(l)(vii)(c) of the Act in this case would have no application as there is nothing to show that the income derived by a non-resident company irrespective of where rendered, was utilized in India. ,. (8) Article 7 of the DTAA is applicable in this case, and it limits the tax E on business profits to that arising from the operationsofthe permanent establishment. In this case, the entire services have been rendered outside India, and have nothing to do with the permanent establishmei;it, ~nd can thus not be attributable to the permanent establishment and therefore not taxable in India. F (9) Applying the principle of apportionment to composite transactions which have some operations in one territory and some in others, is essential to determine the taxability of various operations.

(10) The location of the source of income within India would not render sufficient nexus to tax the income from that source.

(11) If the test applied by -the_ Authority for Advanced Rulings is to be adopted here too, then it would eliminate the difference between the L.

connection between. Indian and foreign operations, and the apportionment of income accordingly.

ISHIKAWAJMA-HARIMA HEAVY INDUSTRIES LTD. v. DIRECTOR OF INCOME TAX, MlThffiAI [SINHA, J.J 163

(12) The services are inextricably linked to the supply of goods, and it must be considered in the same manner.

88, For the reasons aforementioned, the appeal is allowed in part and to the extent mentioned hereinbefore. No costs.

S.K.S. Appeal partly allowed. B