. A foreign entity who wishes to set-up its business operations in India has two options, they are, either as an incorporated entity under the Companies Act, 2013 or as an unincorporated entity such as a Liaison Office (LO) or Branch Office (BO) or Project Office (PO). ‘LO’ means a place of business to act as a channel of communication between the foreign entity or principal place of business and entities in India without entering into any kind of commercial contracts directly or indirectly but functions wholly from its parent entity’s remittances through normal banking channels. ‘BO’ with respect to a company will be any establishment described as a branch by the company or any establishment carrying on the same activity as that carried on by the Head office of the company or any establishment engaged in such production, or manufacture excluding any establishment as notified by the Central Government. The last one ‘PO’ is just to represent the interests of a foreign entity which executes a project in India and does not include a ‘LO’. From the above, it is clear that an ‘LO’ is an extended hand of the foreign entity in a simplest form without having a separate legal standing of its own. Such an ‘LO’ can carry certain prescribed activities they are – representing the non-resident entity or parent entity, promoting its export import from or to India, promote technical or financial collaborations between parent entity and group companies and companies in India may act as a communicating channel between parent company and Indian companies. An LO is allowed to accept inward remittance from the Principal or Head office through normal banking channels. However, except in the case of closure of the ‘LO’ outward remittance will not be allowed such LO. In India ‘LO’ is subject to Reserve Bank of India (RBI’s) ‘Foreign Exchange Management (Establishment in India of a branch office or a liaison office or a project office or any other place of business) Regulations, 2016, Companies Act, 2013, Income-tax Act, 1961 and the recently introduced ‘Goods and Services Tax Law’ and relevant Rules issued therein. This article predominantly deals with the ‘Income Tax Perspective and other relevant issues thereon.
‘LO’ and Income Tax Law & Compliance
2. Interestingly, no ‘Income’ in the hands of ‘LO’, hence, they are not subject to ‘Tax Audit or ‘Transfer Pricing Regulations’. However, they are also required to comply with certain Income Tax provisions, such as filing of Quarterly Tax Deduct at Source (TDS) Returns, if applicable, Yearly filing of Audited Accounts of the ‘LO’ with the Directorate of Income Tax, New Delhi (in quadruplicate) and Form 49C with the concerned Assessing Officer having jurisdiction over such ‘LO’. To overview and regulate ‘LO’s functions, a new Section 285 was inserted by the Finance Act, 2011 with effect from 1st June, 2011. The rationale may be drawn as ‘The foreign entities operate in India through a ‘LO’ or ‘BO’ or Association of Individuals ‘AoI’ after obtaining necessary approvals from the RBI. Unlike a ‘BO’, ‘LO’ does not file a Return of Income, not compelled is to do so, on the ground that no ‘Business Activity’ is allowed to be carried out by an ‘LO’ in India. Hence, a new Section provides that a non-resident to file an ‘Annual Information Statement’ in respect of activities of an ‘LO’ in India. According to this Section, every non-resident having an ‘LO’ in India shall file a Statement with prescribed particulars within sixty (60) days from the end of the financial year, i.e., 30st May of every year. The Rule 114DA of the Income Tax Rules, 1962, prescribes the form of Statement and particulars to be furnished in Form 49C in electronic form by using Digital signature. The said Annual Statement shall be duly verified by the Chartered Accountant of the authorised person on behalf of such non-resident person who is Authorised Signatory, as far as such LO is concerned.
Contents of Form 49C
3. Annual Statement under section 285 of the Income-tax Act, 1961, read with Rule 114DA. The said Form extensively seeks the following particulars—
(1) Nature of working of the ‘LO’ including products or services for which liaisoning activity is done or is carried by it.
(2) India-specific financial details for the relevant financial year, i.e., receipts, income and expenses of the non-resident person from or in India (not only of the ‘LO’)
(3) Details of all purchases, sales and services from or to Indian parties during the year by the non-resident person (not limited to transactions made by ‘LO’).
(4) Name & Designation of Officer In charge for each Office of the non-resident person in India.
(5) Details of any salary or compensation of any sort payable outside India to any employee working in India or for services rendered in India.
(6) Employees of the liaison office, i.e., number of employees, salary details (including salary received overseas), designation, location, etc.
(7) Details of agents, distributors and representatives of the foreign company in India.
(8) Names & addresses of the top five parties in India with whom the ‘LO’ has been doing the liaisoning.
(9) Information on group companies present in India and their activities, whether the liaison office is liaising on behalf of the group companies?
(10) Details of other liaison offices of group companies in India, group entities operating from the same premises as the liaison office, etc.
The said requirements apply to all those ‘LOs’ established as per the Foreign Exchange Management Act, 1999, ‘Foreign Exchange Management (Establishment in India of a branch office or a liaison office or a project office or any other place of business) Regulations, 2016, and other ‘Guidelines’, Master Circulars, etc an issued by the RBI.
Taxability of an ‘LO’ in India
4. In addition to above, ‘LO’ in India will be governed by Section 9(1)(i) of the Income-tax Act, 1961 which deals with ‘Indirect Transfer’ provisions (inserted by the Finance Act, 2012 with retrospective effect from 1st April, 1961) and Article 5 which deals with Permanent Establishment (PE), read with Article 7 which deals with Business Profits (BP) of the relevant Double Tax Avoidance Agreement (DTAA) where India has entered with its ‘Parent entity’s resident country. According to Section 9(1)(i), an Lo would be deemed to be liable to tax on its income in India in case it constitutes a ‘Business Connection’ of its foreign parent in India. Similarly, Article 5, read with Article 7 of the relevant DTAA, an ‘LO’ would be taxable in India, in case it constitutes a PE of its parent entity. However, if the ‘LO’ is held to be a PE or BC, only so much of the profits as are attributable to the operations carried out by the ‘LO’ in India, would be liable to tax in India. As said above, under the Income-tax Act, 1961, no income shall be deemed to accrue or arise in India to the foreign parent through or from operations which are confined to the purchase of goods in India for the purpose of export. However, it is purely left to the assessee’s discretion whether to apply such provisions of the Act or to rely on their tax treaties.
Business Connection (BC)
5. An Explanation 1 has been inserted in Section 9(1) by the Finance Act, 2003 with effect from 1st April, 2004. A plain reading reveals that only such part of the income as is attributable to the operations carried out in India are Taxable. Thus, mere existence of a ‘Permanent Establishment’ would not constitute a ‘BC’. A ‘BC’ may be in the form of a ‘Branch Office’ in India or an ‘Agent of a non-resident in India and includes such business activities carried out through a person who acts on behalf of such non-resident with authority to conclude such contracts except activities which are limited to the purchase of goods for the non-resident. In case of absence of any such authority but maintains and supplies such goods, secures orders on behalf of the non-resident will be treated as a ‘Business Connection’.
Permanent Establishment (PE)
6. The concept of Permanent Establishment is also century old which evolved in the last century. The OECD in its ‘Model Tax Convention Commentary’ interpreted the term “fixed place of business” as a business which is completely immobile, to include businesses having a commercial and geographical coherence within a particular jurisdiction. However, with years of technological advancement, its scope also has extended beyond the physical presence to include a person who acts on behalf of an enterprise including an authority to conclude the contracts. Generally, businesses are subject to a tax of where its permanent establishment is constituted. In a globalized world, the business can be conducted by foreign entities without establishing or having any physical presence in the country. The traditional businesses are fully taxable on their business income arising in Indian or source jurisdictions either as a resident taxpayer or the permanent establishment of a foreign company which is by default subject to higher tax burden compared to those businesses conducted by digital means. Clause (g) of Section 161 of the said Chapter of the Finance Act, 2016, is also an inclusive definition which defines the term as ‘a fixed place of businesses’ where the business of the enterprise is wholly or partly carried on. Two most common ‘Tax disputes in e-Commerce domain” are ‘existence or otherwise of a Permanent Establishment and another one is Payments towards digital goods and services whether those constitute as ‘Royalty or fee for technical services’. The last Committee on taxation of e-Commerce observed that due to absence of ‘Taxing Rights or “Source Jurisdiction”, as provided in Tax treatise, are the key reasons for increasing Domestic and International Tax disputes.
Exemption from ‘Equalisation Levy or Google Tax’
7. If the beneficial owner of the consideration for specified transactions – has a permanent establishment in India, such consideration forms a business receipt and the income derived from the sum is attributable to such permanent establishment and is taxable under the Income-tax Act, 1961 and Rules made thereunder.
Whether a ‘LO’ constitutes a PE or BC and other contentious Issues
8. Generally, the Indian Tax Authorities have been adopting a position that an ‘Lo’ constitutes a PE or BC of its foreign parent entity. Consequently, any receipt due to the ‘LO’ or to its foreign parent from any activity in India have been held as liable to tax in the hands of the LO in India without appropriating allowance for expenses in a few cases. Undoubtedly, this is contrary to the ‘LO’ contention that they are prohibited from carrying on business in India and also that no profits are attributable to the activities carried out by them in India. It seems that Indian Judiciary pronounced mix of pronouncements stating whether ‘LO’ constitutes as PE or not, whether ‘LO’ does have ‘BC’ in India or not, whether ‘LO’ should deduct TDS or not, whether ‘LO’s Income arises or does not arises in India. Selected precedents are –
(1) Anglo-French Textile Co. Ltd. v. CIT [1953] 23 ITR 101
(2) IAC v. Mitsui &. Co. Ltd. [1991] 39 ITD 59 (Delhi)(SB)
(3) CIT v. Industrial Engineering Projects (P.) Ltd. [1993] 202 ITR 1014 (Delhi)
(4) UAE Exchange Centre LLC, In re [2004] 268 ITR 9/139 Taxman 82 (AAR)
(5) Gutal Trading Est, In re [2005] 278 ITR 643/149 Taxman 498 (AAR-New Delhi)
(6) Motorola Inc. v Dy. CIT [2005] 96 TTJ 1 (Delhi)
(7) Angel Garment Ltd., In re [2006] 287 ITR 341/157 Taxman 195 (AAR)
(8) Western Union Financial Services Inc. v. Asstt. DIT (IT) [2007] 104 ITD 34 (Delhi)
(9) Cargo Community Network PTE Ltd., In re [2007] 289 ITR 355/159 Taxman 243 (AAR)
(10) Sojitz Corporation v. Asstt DIT [2008] 117 TTJ 792 (Kol)
(11) Mitsui & Co. Ltd. v. Asstt. CIT [2008] 114 TTJ 903 (Delhi)
(12) K.T. Corpn., In re [2009] 181 Taxman 94 (AAR)
(13) IKEA Trading (Hong Kong) Ltd., In re [2009] 308 ITR 422/176 Taxman 344 (AAR-New Delhi)
(14) Mondial Orient Ltd. v. Asstt. CIT [2010] 42 SOT 359 (Bang.)
(15) Columbia Sportswear Co. [2011] 12 taxmann.com 349/201 Taxman 214/337 ITR 407 (AAR)
(16) M. Fabricant & Sons Inc. v. Dy. DIT [2011] 48 SOT 576 (Mum.)
(17) Metal One Corprn. v. Dy. DIT [2012] 18 taxmann.com 84/49 SOT 681 (Delhi)
(18) Nike Inc. v. Asstt. CIT [2013] 125 ITD 35 (Bang.)
(19) Brown & Sharpe Inc. v. Asstt./Dy. CIT [2014] 41 taxmann.com 345/64 SOT 126 (Delhi)
(20) Jebon Corpn. India Liaison Office v. CIT (International Taxation) [2011] 55 DTR 113 (Kar.)
(21) Linmark International (Hong Kong) Limited v. Dy. DIT (International Taxation) [2011] 10 taxmann.com 184 (Delhi)
(22) CIT v. Interra Software India (P.) Ltd. [2011] 11 taxmann.com 82/199 Taxman 38 (Mag.) (Delhi)
Concluding remarks
9. It is high time that the ‘Direct Tax Code Panel’ headed by Sri. Akhilesh Ranjan, Member (Legal) CBDT, who has considerable amount of ‘International Taxation Expertise’ may concentrate on the much debated issue of whether ‘LO’s are subject to Indian Income Tax Law and draw the suitable ‘Provisions’ after considering all relevant details ‘Precedents, prevailing DTAA Provisions and precedence from other ‘Tax Jurisdictions’ settle contentious issue once and for all. The Task Force has sought feedback and suggestions from stakeholders while drafting proposed new ‘Direct Tax Code’ to replace the Sixty years of old Income Tax Law and giving its final touches to the much awaited ‘Initial Draft’.
Source – Taxmann Article