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Income Tax

Export Commission and Brochure Expenses Qualify for Overseas Income Exception: ITAT Pune

By CA Sandeep Kanoi Income Tax Judiciary November 5, 2026
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Case Law Details

TaxGuru Citation
2026 taxguru.in 18037
Case Name
DCIT Vs Aquapharm Chemicals Pvt. Ltd. (ITAT Pune)
Appeal Number
Premium Access
Date of Judgement/Order
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Related Assessment Year
2016-17
Courts
All ITAT, ITAT Pune
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DCIT Vs Aquapharm Chemicals Pvt. Ltd. (ITAT Pune)

Summary: The Pune Bench “C” of the Income Tax Appellate Tribunal partly allowed the Revenue’s appeal for statistical purposes and dismissed Aquapharm Chemicals Pvt. Ltd.’s cross-objection for Assessment Year 2016-17. The appeal arose from the CIT(A)/NFAC order dated 14 August 2024, which deleted a Section 14A disallowance of ₹3,54,24,728 and a disallowance of ₹8,62,68,864 relating to payments to non-residents without tax deduction. The Tribunal first condoned the assessee’s 155-day delay in filing its cross-objection, relying on Collector, Land Acquisition, Anantnag & Anr. v. Mst. Katiji & Ors. and Inder Singh v. State of Madhya Pradesh.

The assessee manufactured and sold basic and speciality chemicals. It filed its return declaring income of ₹42,99,44,050, while the assessment determined income at ₹55,16,37,642. On Section 14A, the assessee relied on interest-free share capital and reserves of ₹217.59 crore, against investments of approximately ₹106.70 crore. Its written submissions identified ₹10 crore invested in NHAI bonds, exempt interest of ₹13,98,255 and a voluntary disallowance of ₹3,000. It also stated that cooperative-bank dividend of ₹87,500 had been offered to tax. Citing South Indian Bank Ltd., Reliance Industries Ltd., Shapoorji Pallonji & Co. Ltd. and Reliance Power Ltd., it argued that sufficient own funds precluded interest disallowance and alternatively sought restriction of the investment base to investments yielding exempt income.

The Revenue supported the Assessing Officer’s examination of the balance sheet, arguing that interest-free funds had already been deployed in fixed assets, capital work-in-progress and other applications. It also referred to the Finance Act, 2022 amendment concerning expenditure relatable to exempt income. The assessee’s cross-objection alleged that the Assessing Officer had not recorded the satisfaction required by Section 14A(2). Rejecting that objection, the Tribunal found that the assessment order devoted almost 13 pages to the issue, examined the accounts, investments and fund movements, and recorded proper dissatisfaction with the assessee’s claim before applying Rule 8D.

The Tribunal nevertheless found the CIT(A)’s merits examination incomplete. The assessment included interest disallowance of ₹3,08,16,152.63 under Rule 8D(2)(ii) and ₹46,08,575 under Rule 8D(2)(iii), whereas the CIT(A) had treated the entire amount as interest. The CIT(A) had also not addressed the Assessing Officer’s finding that the annual application of funds of approximately ₹31.94 crore exceeded the increase in interest-free funds of approximately ₹18 crore, indicating deployment of borrowed funds of at least ₹13.94 crore. The Tribunal restored the Section 14A issue to the CIT(A) for necessary examination, with reasonable opportunity to the assessee. It did not finally determine the quantum of that disallowance.

The overseas-payment dispute concerned export commission of ₹4,78,26,348, brochure design and distribution expenses of ₹28,679, import inspection expenses of ₹44,67,680 and legal-compliance expenses of ₹3,39,46,157. The Assessing Officer characterised the services as technical, managerial or consultancy services under Section 9(1)(vii), questioned treaty relief in the absence of tax residency certificates, and disallowed the payments. The assessee disputed the FTS characterisation and relied alternatively on Section 9(1)(vii)(b), absence of a permanent establishment, treaty “make available” conditions and, for Chinese inspection-service providers, the treaty provisions on independent personal services.

The CIT(A) admitted agreements and some tax residency certificates as additional evidence under Rule 46A. Although a remand report had been sought on 12 February 2020 and a reminder issued on 24 June 2024, no report had been received. Relying on HCL Singapore PTE. Ltd. v. ACIT and the authorities discussed in that decision, the CIT(A) treated the overseas services as falling within the foreign-income exception and deleted the entire disallowance. The Tribunal held that this general reasoning did not adequately examine the distinct nature and purpose of import-inspection and legal-compliance services.

For export commission and brochure design and distribution, aggregating to ₹4,78,55,027, the Tribunal found no dispute that the expenditure was incurred to obtain export orders from overseas customers. It held that the exception in Section 9(1)(vii)(b) applied to these payments to non-residents having no permanent establishment in India, and upheld the deletion of the disallowance to that extent.

For import inspection, the Tribunal held that the services required technical expertise and fell within fees for technical services. Payments for inspection of goods being imported were not shown to fall within the exception for earning income from a source outside India. The possibility that imported goods might ultimately support export activity did not, on the facts considered, establish the required connection. It therefore set aside the CIT(A)’s relief and sustained the import-inspection disallowance. The order states ₹44,67,680 in its expense break-up and initial discussion, ₹44,76,680 at the end of paragraph 24 and ₹44,78,680 in paragraph 26.

For legal-compliance expenses of ₹3,39,46,157 paid or payable to ten non-residents, the Tribunal held that the services fell within FTS but remanded the issue for the limited purpose of verifying whether they were incurred for making or earning income from a source outside India. These included overseas regulatory registrations, consultancy, customs-law compliance and audit-related services. The CIT(A) must examine their actual connection with export business, domestic activity or imports, and may obtain an Assessing Officer’s remand report on fresh details. Reasonable opportunity must be provided to the assessee. Thus, the order preserved export-related relief, sustained the import-inspection disallowance and left Section 14A and the legal-compliance exception for fresh examination.

Case Details: ITA No. 2150/PUN/2024 and C.O. No. 16/PUN/2025; AY 2016-17; order dated 25 September 2026; ITAT Pune, Bench “C”; Dr. Manish Borad, Accountant Member, and Shri Vinay Bhamore, Judicial Member.

Cases Discussed

FULL TEXT OF THE ORDER OF ITAT PUNE

The captioned appeal at the instance of Revenue and Cross Objection by the assessee pertaining to A.Y. 2016-17 are directed against the order of ld.CIT/NFAC dated 14.08.2024 passed u/s.250 of the Income-tax Act, 1961 (hereinafter also called ‘the Act’) arising out of Assessment order dated 21.12.2018 passed u/s.143(3) of the Act.

2. Revenue in its ITA No.2150/PUN/2024 has raised following grounds of appeal :

“1(a) On the facts and circumstances of the case and in law, the Ld. CIT(A) erred in deleting the addition of Rs. 3,54,24,728/- on account of disallowance u/s 14A r.w. Rule 8D by holding that the assessce ‘sown funds (interest free funds) exceeded the investments that have yielded exempt income without appreciating the fact that the entire interest free funds of 217.59 Cr in the form of share capital and reserves as stated by the assessee, were already parked/applied in acquisition of fixed assets, Capital WIP and utilized for reducing the liabilities etc. to the extent of Rs.249.72 Cr. Therefore, it cannot be said that the funds out of share capital and reserves of Rs.217 Cr were available to the assessee for being invested in the investments of Rs.106.704 Cr on which the assessee earned the exempt income.

1(b) On the facts and in the circumstances of the case and in law, Ld. CIT(A) has erred in accepting the contention of the assessee that disallowance u/s.14A should be restricted in relation to investments on which it has earned exempt during the year, ignoring Explanation to Sec.14A that the I.T. Act, 1961 which says that the provisions of Sec. 14 shall apply and shall be deemed to have always applied even in a case where the income, not forming part of the total income under the Act, has not accrued or arise or has not been received during the relevant previous year but expenditure in relation to such income has been incurred during the previous year.

2.(a) On the facts and circumstances of the case and in law, the Ld. CIT(A) erred in deleting the addition of Rs. 8,62,68,864/- u/s 40(a)(ia) of the Act by holding that non-resident agents are not liable to tax in India in respect of payments received by them from the assessee for various services rendered outside India without appreciating the fact that the AO has analysed the nature of these services and had found that these are in the nature of technical, consultancy or managerial based on some domain knowledge/professional skill, which squarely fall within the ambit of Fee for technical services (FTS) u/s 9(1)(vii) of the IT Act and hence taxable in the hands of non-residents.

2(b). On the facts and circumstances of the case the Ld. CIT(A) erred in deleting the addition of Rs. 8,62,68,864/- u/s 40(a)(ia) of the Act without appreciating the fact that the assessee has not given the TRCs, which is mandatory to claim any relief under the DTAA in view of provisions of section 90(4) of the IT Act.

4. The appellant craves leave to add, to amend, to alter any of the above grounds of appeal.”

3. Assessee in its C.O.No.16/PUN/2025 has raised following Cross Objections :

“Based on the facts and circumstances of the case, Aquapharm Chemical Limited (Formerly known as Advaya Chemical Industries Limited, surviving entity post amalgamation with Aquapharm Chemicals Private Limited) (‘The Respondent’) respectfully submits its cross objection against the appeal preferred by DCIT Circle-8, Pune, which is as follows:

Cross objection No. 1: Erroneous addition of INR 3,54,24,728 without recording satisfaction as mandated by section 14A(2) of the Act.

“On the facts and in the circumstances of the case and in law, the Learned Assessing Officer has factually and legally erred in making an addition of INR 3,54,24,728 under section 14A of the Act, without recording satisfaction on the suo moto disallowance offered by the Appellant as mandated by section 14A(2) of the Act.”

The Respondent craves leave to add to or alter, by deletion, substitution, modification or otherwise or amend or withdraw the cross objections herein and to submit such statements, documents and papers as may be considered necessary either before or during the hearing of the appeal.”

4. Registry has pointed out that the cross objection filed by the assessee is barred by limitation by 155 days. Assessee has filed a condonation application explaining the reasons for delay. On due consideration of the same, we are satisfied that ‘reasonable cause’ prevented the assessee from filing the appeal within the stipulated time. We therefore placing reliance on the judgment of Hon’ble Apex Court in the case of Collector, Land Acquisition, Anantnag & Anr. Vs. Mst. Katiji & Ors. reported in (1987) 2 SCC 107 and in the case of Inder Singh Vs. State of Madhya Pradesh judgment dated 21.03.2025 (2025 INSC 382) condone the delay of 155 days in filing the appeal before this Tribunal and admit the cross objection for adjudication.

5. Brief facts of the case are that the assessee is a Private Limited Company engaged in the business of Manufacture and sale of basic and special chemical used in detergents, soaps and other chemical industries. Return of income for A.Y. 2016-17 e-filed on 24.11.2016 declaring total income of Rs.42,99,44,050/-. The case of the assessee was picked up for scrutiny under CASS followed by validly serving statutory notices u/s.143(2) and 142(1) of the Act. During the course of assessment proceedings, ld. Assessing Officer examined the submissions filed by the assessee. Ld. Assessing Officer on observing that assessee has made investments in Shares, Securities and Bonds at Rs.106.70 crore deriving exempt income in the form of Dividend and Interest show caused the assessee for the invocation of section 14A r.w. Rule 8D of the Act. In response, the assessee submitted that interest disallowance u/s.14A of the Act is uncalled for as the assessee has sufficient interest free funds in the form of share capital and reserves and surplus to cover up the investments fetching exempt income. However, ld. Assessing Officer was not satisfied and he on examining the balance sheet made reference to the application of funds as on 31.03.2015 and 31.03.2016 alongwith the interest free funds available with the assessee observed that against the application of funds during the year amounting to Rs.31.94 crore, the increase in interest free funds is only Rs.18.00 crore (approx.) indicating that borrowed funds have also been applied during the year. Even though the assssee made submissions, however, ld. Assessing Officer was not satisfied and he applied Rule 8D read with section 14A of the Act and made interest disallowance under Rule 8D(2)(ii) at Rs.3,08,16,152.63 and under Rule 8D(2)(iii) at 0.5% of the average value of investments calculating the same at Rs.46,08,575/-. In total, the disallowance u/s.14A of the Act made at Rs.3,54,24,727.63. Further, ld. Assessing Officer also noticed that assessee has made payments to non-residents without deduction of tax at source. Ld. Assessing Officer noted that there are 25 non-resident parties to whom payments without deduction of tax at source has been made which includes the payments made towards the commission paid for getting export orders, expenses incurred for legal compliances and import inspection. Assessee contended that the payments are not in the nature of Technical services and not taxable in India in the hands of non-resident recipients as they do not have any Permanent Establishment (PE) and in view of the Double Taxation Avoidance Agreement (DTAA) the amount received is not taxable in India. Ld. Assessing Officer however was not satisfied with these submissions and observed that by virtue of Explanation to section 9(1) of the Act where it has been clarified that the income of the non-resident shall be deemed to accrue or arise in India whether or not the non-resident has a place of business in India or the non-resident has rendered services in India and the income from services (FTS) defined u/s.9(1)(vii)(b) of the Act rendered by non-resident outside India will also accrue or arise in India. Ld. Assessing Officer made disallowance u/s.40(a)(ia) of the Act at Rs.8,62,68,864/-. Income assessed at Rs.55,16,37,642/-.

6. Aggrieved assessee preferred appeal before ld.CIT(A) and made detailed submissions as well as relied on plethora of decisions. Ld.CIT(A) on duly considering the same deleted the impugned addition/disallowance.

7. Aggrieved Revenue is now in appeal before this Tribunal and the assessee has raised cross objections raising ground that the disallowance u/s.14A has been made by the Assessing Officer without recording satisfaction as mandated u/s.14A(2) of the Act.

8. Ld. DR vehemently argued supporting the order of the Assessing Officer and submitted that in light of the amendment brought in by the Finance Act, 2022 clarifying that in absence of exempt income also the disallowance u/s.14A of the Act can be made. She also submitted that Assessing Officer has made detailed satisfaction and has observed that the application of funds under various heads of the assets is much more than the increase in the interest free funds which exhibits that borrowed funds have been applied for making investments in Shares, Securities and Bonds which have/will/may fetch exempt income on the issue of disallowance u/s.40(a)(ia) of the Act. She vehemently argued referring to the observation of ld. Assessing Officer.

9. On the other hand, ld. Counsel for the assessee vehemently argued referring to the following written submissions :

I. Background

1.1 The Respondent is an Indian Company engaged in the business of manufacturing and sale of basic and special chemicals used in detergents, soaps and other chemical industries. The Company filed Return of Income (ROI) for relevant assessment year declaring total income of INR 42,99,44,050 under normal provisions of the Income-tax Act, 1961 (‘the Act’) and income under section 115JB of the Act of INR 60,82,74,822. Subsequently, it paid the tax as per normal provisions of the Act.

1.2 The Respondent’s assessment was completed u/s 143(3) comprising disallowance of: – INR 3,54,24,728 under section 14A of the Act – INR 8,62,68, 864 under section 40(a)(i) of the Act

1.3 The Company filed an appeal before CIT(A) on 14 January 2019 against the aforesaid additions. The CIT(A) agreeing to the detailed submissions filed by the Company passed an order dismissing the additions made by the AO. The AO is now in appeal before the Hon’ble Members aggrieved by the order of CIT(A). The Respondent submits the brief synopsis for captioned appeal as under:

II. Ground No. 1 raised by the Department for AY 2016-17 – Addition in respect of disallowance under section 14A of the Act r.w.r 8D of the Income Tax Rules, 1962 (the Rules) of INR 3,54,24,728

2.1 During the captioned year, the Respondent earned exempt income of INR 13,98,255 which is an interest income from investment National Highways Authority of India (NHAI) bonds. Additionally, it has also earned dividend of INR 87,500 from a Cooperative bank which it has offered to tax in ROI filed for AY 2016-17.

2.2 Further, the Company also made suo-moto disallowance under section 14A of the Act of INR 3,000, while calculating total taxable income of the Company.

2.3 Following are the other relevant details appearing in the audited financials of the Company as on 31 March 2016-

Particulars INR (in Crores)
Total specific purpose borrowings (long term / short-term) 154.37
Interest expense (including processing fee / forex fluctuation) 10.59
Interest free funds (Share capital + Reserves & Surplus) 217.59
Investment in NHAI bonds 10

Ld. AO’s findings [page 2 onwards of assessment order]

2.4 The Ld. AO contended that there is no presumption allowed to be assumed under section 14A of the Act that the investments in tax free securities are made using interest free funds if such interest free funds exceed the value of investments, rather the section 14A makes it mandatory to disallow any expenditure in relation to exempt income.

2.5 The Ld. AO additionally stated that entire interest free funds in the form of share capital and reserves as stated by the respondent, were already parked/applied in acquisition of fixed assets, Capital WIP and utilized for reducing the liabilities etc. Therefore, it cannot be said that the funds out of share capital and reserves were available for being invested in the investments which earned the exempt income.

2.6 The Ld. AO further stated that as regards the reserves, the same is built up on year to year basis over a period of time and not in one year that too by way of churning the capital and borrowed funds into the business activities and hence it cannot be said that the investments in tax free securities are out of reserves only because the source of circulating capital is also out of borrowed money and hence even return of such circulating capital along with profits would also amount to application of borrowed money.

2.7 Accordingly, the Ld. AO calculated disallowance of INR 3,54,24,727 under section 14A of the Act r.w.r 8D of the Rules, considering the average of opening and closing balances of the total investment appearing on the financials of the Company as on 31 March 2016, without recording any satisfaction as to why the suo-moto disallowance made by the Respondent was not acceptable.

CIT(A)’s findings [page 32 onwards of CIT(A) order]

2.8 CIT(A) relying upon the judgement of the Hon’ble Supreme Court in case of The South Indian Bank Ltd. vs The Commissioner of Income Tax ([2021] 438 ITR 1(SC)) held that the disallowance under section 14A of the Act is not permissible in cases where interest free funds exceed the investments which have yielded exempt income.

2.9 Accordingly, the Ld. CIT(A) deleted the addition made by the Ld. AO Respondent’s Submission

2.10 At the outset, respondent wishes to submit that the issue of non-applicability of disallowance under section 14A of the Act in case where the interest free funds exceed the investments made by the Assessee which has yielded the exempt income under various judgements by Hon’ble Supreme Court and various High Courts. Some of notable judgements are as follows:

© The South Indian Bank Ltd. vs The Commissioner of Income Tax [2021] 438 ITR 1(SC)

* Commissioner of Income Tax v. Reliance Industries Ltd. [2019] 410 ITR 466 (SC)

* Principal Commissioner of Income-tax v. Shapoorji Pallonji & Co. Ltd. [2020] 423 ITR 220 (Bombay)

* Reliance Power Ltd. v. Deputy Commissioner of Income-tax (ITAT Mumbai) [2024] 159 taxmann.com 1626

2.11 The Respondent holds interest free funds of INR 217.59 crores, which exceed the investment made in the NHAI bonds i.e. INR 10 crores, from which it earned an exempt income of INR 13 lakhs. The investment made in the NHAI bonds is on the basis of Board Resolution passed in the meeting held on 15 December 2015. Once the decision for investment was made, there was no time / effort spent by the Company personnel in evaluating investment opportunities to incur any expense associated with the investment / earning any exempt income thereon.

2.12 Thus, the disallowance under section 14A of the Act is not warranted in the case of the Respondent.

2.13 Further the Respondent also wishes to submit that the Ld. AO erred in making an addition under section 14A of the Act, without recording satisfaction on the suo moto disallowance of INR 3,000 offered by the Respondent as mandated by section 14A(2) of the Act.

2.14 Without prejudice to above, the Respondent wishes to submit that while computing the disallowance as per the methodology provided under rule 8D of the Rule, Ld. AO has considered the average of total investment instead of considering the average of the investment on which tax-exempt income has been earned.

III. Ground No. 2 of the Department — Disallowance of INR 8,62,68,864 under section 40(a)(i) in respect of expenditure incurred for the payments made to the non-residents

3.1 During the captioned year, the Respondent availed certain services from the non-residents, in relation to exports. No TDS was deducted by the Respondent while making payment to the non-residents. Following is the summary of expenses incurred:

Sr. No. Description of expenses Amount in INR
1 Export commission 4,78,26,348
2 Legal compliances 3,39,46,157
3 Import Inspection 44,67,680
4 Designing brochure and distribution to foreign customer 28,679
Total 86,268,864

Ld. AQ’s Contention [page 16 onwards of assessment order]

3.2 The Ld. AO contended that the services provided by the non-residents to the Respondent are in the nature of Fee for Technical Services (FTS) as defined under section 9(1)(vii) of the Act.

3.3 Additionally, the Ld. AO also held that the income of the non-resident shall be deemed to accrue or arise in India, whether or not the non-resident has a place of business in India or the non-resident has rendered the services in India. Hence, the income from services rendered by such non-residents outside India will also accrue or arise in India, if the nature of such services falls under section 9(1)(vii) of the Act.

3.4 Further the Ld. AO also held that no relief under section 90 of the Act can be granted on the payments made to the non-resident vendors in absence of Tax Residency Certificates (TRC) of such vendors.

3.5 Accordingly, the payment made by the respondent to these non-resident vendors was liable for tax withholding under section 195 of the Act and as tax was not withheld on such payments, such expenses are to be disallowed under section 40(a)(i) of the Act.

CIT(A)’s Contention [page 37 of CIT(A) order]

3.6 The Ld. CIT(A) contended that the non-resident vendors have rendered services outside India for earning income from sources outside India. Therefore, payments made by the Appellant to the non-resident agents for such services do not qualify for FTS in view of the exclusion provided u/s 9(1)(vii)(b) of the Act.

3.7. Further the Ld. CIT(A) also held that the non-residents do not have Permanent Establishment in India as per the tax treaties between India and respective countries. Accordingly, such income will not be taxed in the hands of non-residents as ‘business income’. The CIT(A) also took into consideration the TRCs / Form 10F / No PE declarations filed by Company on a sample basis.

3.8 As the payments to non-residents are not liable to tax withholding under section 195 of the Act, the CIT(A) held that the provisions of section 40(a)(i) of the Act shall not be applicable.

Respondent’s Arguments

3.9 The Respondent hereby has following arguments for each nature of expense: Payment of export commission to sales representative

3.10 Export commission paid to non-resident agents does not fall within the scope of FTS as defined under section 9(1)(vii) of the Act. FTS means any consideration for rendering managerial, technical or consultancy services. As commission paid to the non-resident vendors does not fall under any of these services, hence these are not ought to be treated as FTS.

3.11 Without prejudice to above, even if the services of the agent are to be treated as FTS as per section 9(1)(vii) of the Act, the said services will be covered by the exception provided under section 9(1)(vii)(b) of the Act. Section 9(1)(vii)(b) provides that the FTS income payable by a resident shall be deemed to be accrued and arise in India except where it is payable in respect of services utilized in a business or profession carried on by such person outside India or for the purpose of making or earning income from any source outside India. As commission paid to such non-resident agents is for the Purpose of earning income outside India, even if such commission paid is treated as FTS as per section 9(1)(vii) of the Act, the same shall not be liable for tax withholding as same is covered under exception under section 9(1)(vii)(b) of the Act.

3.12 Further, the non-resident agents hold valid TRC, accordingly treaty provisions wherever more beneficial can be applied. The definition of FTS is more restrictive in tax treaties with UK and USA. The services provided by the export agents does not ‘make available’ any technical knowledge, experience skill or know how to the Respondent. Therefore, such expense shall not be considered as Fees for Included services as per India-US or India-UK treaty and therefore will not be liable for tax withholding as per the respective tax treaties.

Payment for services in relation to compliance in European countries

3.13 During the relevant assessment year, the Respondent has received services in relation to VAT and REACH registration according to local regulations of respective countries which are mandatory for exporting goods to European union nations and USA. The services provided by non-resident professionals include representation before Government authorities, certification etc.

3.14 The said services will be covered by the exception provided under section 9(1)(vii)(b) of the Act, as fees paid to non-resident professionals are for the purpose of carrying out compliance requirements of foreign countries for exporting goods/service to such countries.

»

3.15 Further, the Respondent also wishes to submit that the non-resident agents hold valid TRC, treaty provisions wherever more beneficial can be applied. The definition of FTS is more restrictive in tax treaties with UK, USA and Netherlands. The services provided by the professionals does not ‘make available’ any technical knowledge, experience skill or know how to the Respondent. Therefore, such expense shall not be considered as FTS / Fees for Included services as per India-US, India-UK treaty and India-Netherlands tax treaty and therefore shall not be liable for tax withholding as per the treaties. Payment for services in relation to testing & inspection of raw materials

3.16 During the relevant assessment year, the Respondent availed services in relation to testing/ inspection of raw materials and to find source parties from whom raw materials can be procured.

3.17 Import inspection and testing fees paid to non-resident vendors does not fall within the scope of FTS as defined under section 9(1)(vii) of the Act.

3.18 Further, Article 12 (Royalties and Fees for Technical Services) of India-China tax treaty specifically excludes services covered by Article 7 (Business profit) and Article 14 (Independent Personal Services) of the India-China tax treaty. As the non-resident service providers for these services hold valid TRC of China, services provided by them will be covered under Article 14 of India-China tax treaty.

3.19 Income earned by such service providers will be taxable in India only if they have a fixed base in India for the purpose of performing its activities or if such personnels stays in India for a period exceeding 183 days in the taxable year.

In the absence of such vendors presence in India, as per the tax treaty provisions of India-China, the payments made for raw material inspection services shall not be liable to tax in India.

10. We have heard the rival submissions and perused the record placed before us. The first issue for consideration is disallowance u/s.14A of the Act wherein the Assessing Officer has made disallowance u/s.14A r.w.Rule 8D(2)(ii) and Rule 8D(2)(iii) of the Income Tax Rules, 1962 totalling to Rs.3,54,24,727.63 which has been deleted by ld.CIT(A). Since legal issue has been raised in the cross objection of the assessee, we will first deal with the same.

11. It is claimed that ld. Assessing Officer has not recorded proper satisfaction as mandated u/s.14A(2) of the Act. We note that the Assessing Officer has devoted almost 13 pages in the assessment order and taken into consideration each aspect of the investments made and the funds applied during the year and also take note of all the figures of the interest free funds and investments as on 31.03.2015 and 31.03.2016. It remains an undisputed fact that the Assessing Officer has adhered to the provisions of section 14A(2) of the Act and have recorded proper satisfaction, taken note of the accounts of the assessee and after being not satisfied with the correctness of the claim of the assessee has determined the amount of expenditure incurred in relation to income which does not form part of the total income. Under the given facts and circumstances, we find that the decisions referred and relied on by ld. Counsel for the assessee during the course of its submissions are not applicable. We find that ld. Assessing Officer has recorded proper satisfaction before proceeding to calculate the disallowance u/s.14A of the Act. Thus, Grounds of appeal raised by the assessee in the cross objection are hereby dismissed.

12. Now coming to the grounds raised by the Revenue challenging the finding of ld.CIT(A) relating to the impugned disallowance u/s.40(a)(ia) of the Act, we note that ld.CIT(A) has dealt with this issue of disallowance u/s.14A of the Act observing as follows :

5. Decision

I have carefully perused grounds of appeal, statement of facts, assessment order, submissions made by the Appellant and other details/evidences on records.

5.1. Ground 1

Vide this Ground, the Appellant has objected to the disallowance of Rs. 3,54,24,728/- made by the AO u/s 14A of the Act. In this regard, the Appellant has submitted that it has its own funds i.e. interest free funds, exceeding investments made which have yielded exempt income. The Appellant has placed reliance on various case laws including the judgment of Hon’ble Jurisdictional High Court of Bombay, wherein it has been held that no disallowance u/s 14A is permissible in cases where interest free funds available with the assessee exceeds investments yielding exempt income. Without prejudice, the Appellant has submitted that the disallowance made u/s 14A cannot exceed the exempt income. In this regard, the Appellant has placed reliance on various case laws in support of this contention. The Appellant has further submitted that it has not incurred any expenses on earning exempt income from investments in NHAI bonds. Yet, the Appellant has made a suo moto disallowance of Rs.3,000/-. So, no further disallowance can be made. Without prejudice, the Appellant submits that if the disallowance is to be computed as per Rule 8D, only those investments should be considered which are yielding exempt income. In support of the contention, the Appellant has placed reliance on various case laws.

5.1.1. I have considered the submissions made by the Appellant. I have also perused the assessment order. I find that submissions made in the course pf present proceedings were also furnished before the AO. The AO, however, did not accept the submissions and proceeded to make disallowance u/s 14A of the Act placing reliance on the judgment of Hon’ble Supreme Court in the case of Maxopp Investment Ltd. vs CIT [2018] 91 taxmann.com 154. As regards the submission of the Appellant that disallowance u/s 14A cannot exceed exempt income, the AO has placed reliance on CBDT Circular No. 5 of 2014 dated 11/2/2014 wherein it has been clarified that disallowance u/s 14A will be attracted even if no exempt income is earned during the financial year. The AO has observed that the dismissal of SLP filed by the Department against the judgment of Madras High Court in the case of Chettinad Logistics Pvt. Ltd, the same has been disposed off in a non-speaking order. It is a settled law that SLP disposed by Apex Court in a non-speaking manner does not have a binding precedence.

After having considered the submissions of the Appellant and findings made by the AO in the assessment, I tend to agree with the Appellant that in the facts of the case, no disallowance u/s 14A was permissible. It is an undisputed fact that Appellant’s own funds (interest free funds) exceed the investments that have yielded exempt income. In this regard, I find that this issue stands settled in favour of the assessee by the judgment of Hon’ble Supreme Court in the case of The South Indian Bank Ltd. vs The Commissioner of Income Tax, on 9th September, 2021, Equivalent citations: AIR 2021 SUPREME COURT 4266, AIRONLINE 2021 SC 706. Relevant part of the judgment is reproduced below:

“13. The question therefore to be answered is whether Section 14A, enables the Department to make disallowance on expenditure incurred for earning tax free income in cases where assessees like the present appellant, do not maintain separate accounts for the investments and other expenditures incurred for earning the tax-free income.

………………….

17. In a situation where the assessee has mixed fund (made up partly of interest free funds and partly of interest-bearing funds) and payment is made out of that mixed fund, the investment must be considered to have been made out of the interest free fund.

18. To put it another way, in respect of payment made out of mixed fund, it is the assessee who has such right of appropriation and also the right to assert from what part of the fund a particular investment is made and it may not be permissible for the Revenue to make an estimation of a proportionate figure. For accepting such a proposition, it would be helpful to refer to the decision of the Bombay High Court in Pr. CIT v. Bombay Dyeing and Mfg. Co. Ltd where the answer was in favour of the assessee on the question, whether the Tribunal was justified in deleting the disallowance under Section 80M of the Act on the presumption that when the funds available to the assessee were both interest free and loans, the investments made would be out of the interest free funds available with the assessee, provided the interest free funds were sufficient to meet the investments.

The resultant SLP of the Revenue challenging the Bombay High Court judgment was dismissed both on merit and on delay by this Court. The merit of the above proposition of law of the Bombay High Court would now be appreciated in the following discussion.

18. In the above context, it would be apposite to refer to a similar decision in Commissioner of Income Tax (Large Tax Payer Unit) Vs. Reliance Industries Ltd where a Division Bench of this Court expressly held that where there is finding of fact that interest free funds available to assessee were sufficient to meet its investment it will be presumed that investments were made from such interest free funds.

19. In HDFC Bank Ltd. Vs. Deputy Commissioner of Income Tax, the assessee was a Scheduled Bank and the issue therein also pertained to disallowance under Section 14A.

In this case, the Bombay High Court even while remanding the case back to Tribunal for adjudicating afresh observed (relying on its own previous judgment in same assessee’s case for a different Assessment Year) that, if assessee possesses sufficient interest free funds as against investment in tax free securities then, there is a presumption that investment which has been made in tax free securities, has come out of interest free funds available with assessee.

In such situation Section 14A of the Act would not be applicable. Similar views have been expressed by other High Courts in CIT Vs. Suzlon Energy Ltd., CIT Vs. Microlabs Ltd. and CIT Vs. Max India Ltd. Mr. S Ganesh the learned Senior Counsel while citing these cases from the High Courts have further pointed out that those judgments have attained finality.

On reading of these judgments, we are of the considered opinion that the High Courts have correctly interpreted the scope of Section 14A of the Act in their decisions favouring the assessees.

20. Applying the same logic, the disallowance would be legally impermissible for the investment made by the assessees in bonds/shares using interest free funds, under Section 14A of the Act. In other words, if investments in securities is made out of common funds and the assessee has available, non-interest-bearing funds larger than the investments made in tax- free securities then in such cases, disallowance under Section 14A cannot be made.

21. On behalf of Revenue Mr. Arijit Prasad, the learned Senior Advocate refers to SA Builders v. CIT where this Court ruled on issue of disallowance in relation to funds lent to sister concern out of mixed funds. The issue in SA Builders is pending consideration before the larger bench of this Court in SLP (C) No. 14729 of 2012 titled as Addl. CIT v. Tulip Star Hotels Ltd. The counsel therefore, argues that there is no finality on the issue of disallowance, when mixed funds are used.

On this aspect, since the issue is pending before a larger Bench, comments from this Bench may not be appropriate. However, at the same time it is necessary to distinguish the facts of present appeals from those in SA Builders/Tulip Star Hotels Ltd. In that case, loans were extended to sister concern while here the Assessee- Banks have invested in bonds/securities.

The factual scenario is different and distinguishable and therefore the issue pending before the larger Bench should have no bearing at this stage for the present matters.

22. The High Court herein endorsed the proportionate disallowance made by the Assessing Officer under Section 14A of the Income Tax Act to the extent of investments made in tax-free bonds/securities primarily because, separate account was not maintained by assessee. On this aspect we wanted to know about the law which obligates the assessee to maintain separate accounts. However, the learned ASG could not provide a satisfactory answer and instead relied upon Honda Siel Power Products Ltd. v. DCIT to argue that it is the responsibility of the assessee to fully disclose all material facts. The cited judgment, as can be seen, mainly dealt with re-opening of assessment in view of escapement of income. The contention of department for re-opening was that the assessee had earned tax-free dividend and had claimed various administrative expenses for earning such dividend income and those (though not allowable) was allowed as expenditure and therefore the income had escaped assessment.

On this, suffice would be to observe that the action in Honda Siel (supra) related to re-opening of assessment where full disclosure was not made. An assessee definitely has the obligation to provide full material disclosures at the time of filing of Income Tax Return but there is no corresponding legal obligation upon the assessee to maintain separate accounts for different types of funds held by it.

In absence of any statutory provision which compels the assessee to maintain separate accounts for different types of funds, the judgment cited by the learned ASG will have no application to support the Revenue’s contention against the assessee.

23. It would now be appropriate to advert in some detail to Maxopp Investment Ltd. v. CIT. This case interestingly is relied by both sides’ counsel.Writing for the Bench, Justice Dr. A.K. Sikri noted the objective for incorporation of Section 14A in the Act in the following words: –

“3…… The purpose behind Section 14A of the Act, by not permitting deduction of the expenditure incurred in relation to income, which does not form part of total income, is to ensure that the assessee does not get double benefit. Once a particular income itself is not to be included in the total income and is exempted from tax, there is no reasonable basis for giving benefit of deduction of the expenditure incurred in earning such an income… .”

The following was written explaining the scope of Section 14-A(1):

“41. In the first instance, it needs to be recognised that as per Section 14-A(1) of the Act, deduction of that expenditure is not to be allowed which has been incurred by the assessee “in relation to income which does not form part of the total income under this Act”. Axiomatically, it is that expenditure alone which has been incurred in relation to the income which is includible in total income that has to be disallowed.

If an expenditure incurred has no causal connection with the exempted income, then such an expenditure would obviously be treated as not related to the income that is exempted from tax, and such expenditure would be allowed as business expenditure. To put it differently, such expenditure would then be considered as incurred in respect of other income which is to be treated as part of the total income.”

Adverting to the law as it stood earlier, this Court rejected the theory of dominant purpose suggested by the Punjab & Haryana High Court and accepted the principle of apportionment of expenditure only when the business was divisible, as was propounded by the Delhi High Court.

Finally adjudicating the issue of expenditure on shares held as stock-in-trade, the following key observations were made by Justice Sikri:

“ 50. It is to be kept in mind that in those cases where shares are held as “stock-in-trade”, it becomes a business activity of the assessee to deal in those shares as a business proposition. Whether dividend is earned or not becomes immaterial. In fact, it would be a quirk of fate that when the investee company declared dividend, those shares are held by the assessee, though the assessee has to ultimately trade those shares by selling them to earn profits.

The situation here is, therefore, different from the case like Maxopp Investment Ltd. [Maxopp Investment Ltd. v. CIT, 2011 SCC OnLine Del 4855 : (2012) 347 ITR 272] where the assessee would continue to hold those shares as it wants to retain control over the investee company. In that case, whenever dividend is declared by the investee company that would necessarily be earned by the assessee and the assessee alone.

Therefore, even at the time of investing into those shares, the assessee knows that it may generate dividend income as well and as and when such dividend income is generated that would be earned by the assessee. In contrast, where the shares are held as stock-in-trade, this may not be necessarily a situation. The main purpose is to liquidate those shares whenever the share price goes up in order to earn profits… ”

The learned Judge then considered the implication of Rule 8D of the Rules in the context of Section 14-A(2) of the Act and clarified that before applying the theory of apportionment, the Assessing Officer must record satisfaction on Suo Moto disallowance only in those cases where, the apportionment was done by the assessee. The following is relevant for the purpose of this judgment:

51. ….. It will be in those cases where the assessee in his return has himself apportioned but the AO was not accepting the said apportionment. In that eventuality, it will have to record its satisfaction to this effect

24. Another important judgment dealing with Section 14A disallowance which merits consideration is Godrej and Boyce Manufacturing Company Ltd. DCIT. Here the assessee had access to adequate interest free funds to make investments and the issue pertained to disallowance of expenditure incurred to earn dividend income, which was not forming part of total income of the Assessee.

Justice Ranjan Gogoi writing the opinion on behalf of the Division Bench observed that for disallowance of expenditure incurred in earning an income, it is a condition precedent that such income should not be includible in total income of assessee. This Court accordingly concluded that for attracting provisions of Section 14A, the proof of fact regarding such expenditure being incurred for earning exempt income is necessary. The relevant portion of Justice Gogoi’s judgment reads as follow:

“36. ……..what cannot be denied is that the requirement for attracting the provisions of Section 14-A (1) of the Act is proof of the fact that the expenditure sought to be disallowed/deducted had actually been incurred in earning the dividend income……

25. Proceeding now to another aspect, it is seen that the Central Board of Direct Taxes (CBDT) had issued the Circular no. 18 of 2015 dated 02.11.2015, which had analyzed and then explained that all shares and securities held by a bank which are not bought to maintain Statutory Liquidity Ratio (SLR) are its stock-in-trade and not investments and income arising out of those is attributable, to business of banking. This Circular came to be issued in the aftermath of CIT Vs. Nawanshahar Central Cooperative Bank Ltd. wherein this Court had held that investments made by a banking concern is part of their banking business. Hence the income earned through such investments would fall under the head Profits & Gains of business. The Punjab and Haryana High Court, in the case of Pr. CIT, vs. State Bank of Patiala while adverting to the CBDT Circular, concluded correctly that shares and securities held by a bank are stock in trade, and all income received on such shares and securities must be considered to be business income. That is why Section 14A would not be attracted to such income.

26. Reverting back to the situation here, the Revenue does not contend that the Assessee Banks had held the securities for maintaining the Statutory Liquidity Ratio (SLR), as mentioned in the circular. In view of this position, when there is no finding that the investments of the Assessee are of the related category, tax implication would not arise against the appellants, from the said circular.

27. The aforesaid discussion and the cited judgments advise this Court to conclude that the proportionate disallowance of interest is not warranted, under Section 14A of Income Tax Act for investments made in tax free bonds/ securities which yield tax free dividend and interest to Assessee Banks in those situations where, interest free own funds available with the Assessee, exceeded their investments.

With this conclusion, we unhesitatingly agree with the view taken by the learned ITAT favouring the assessees.

28. The above conclusion is reached because nexus has not been established between expenditure disallowed and earning of exempt income. The respondents as earlier noted, have failed to substantiate their argument that assessee was required to maintain separate accounts. Their reliance on Honda Siel (Supra) to project such an obligation on the assessee, is already negated.

The learned counsel for the revenue has failed to refer to any statutory provision which obligate the assessee to maintain separate accounts which might justify proportionate disallowance.

29. In the above context, the following saying of Adam Smith in his seminal work – The Wealth of Nations may aptly be quoted:

“The tax which each individual is bound to pay ought to be certain and not arbitrary. The time of payment, the manner of payment, the quantity to be paid ought all to be clear and plain to the contributor and to every other person.”

Echoing what was said by the 18th century economist, it needs to be observed here that in taxation regime, there is no room for presumption and nothing can be taken to be implied. The tax an individual or a corporate is required to pay, is a matter of planning for a tax payer and the Government should endeavour to keep it convenient and simple to achieve maximization of compliance.

Just as the Government does not wish for avoidance of tax equally it is the responsibility of the regime to design a tax system for which a subject can budget and plan. If proper balance is achieved between these, unnecessary litigation can be avoided without compromising on generation of revenue.

30. In view of the forgoing discussion, the issue framed in these appeals is answered against the Revenue and in favour of the assessee. The appeals by the Assessees are accordingly allowed with no order on costs.”

It can be observed from the above that while deciding the issue in favour of the assessee, Hon’ble Supreme Court has analysed and discussed various judgements including its judgement in the case of Maxopp Investment Ltd.

Thus, in view of the discussions made hereinabove and respectfully following the judgement of Hon’ble Supreme Court in the case of The South Indian Bank Ltd, I hold that disallowance is not permissible u/s 14A in cases where interest free funds exceed the investments which have yielded exempt income. In view of the same, the disallowance of Rs. 3,54,24,728/- made u/s 14A is directed to be deleted. Ground is, thus, allowed.

13. From perusal of the above finding of ld.CIT(A), we take note of the important aspects, firstly that ld.CIT(A) has considered the amount of disallowance as totally been made for interest disallowance under Rule 8D(2)(ii) of the I.T. Rules, however, the disallowance u/s.14A of the Act has been made under Rule 8D(2)(ii) and 8D(2)(iii) and secondly that ld.CIT(A) has deleted the impugned disallowance only on the ground that interest free funds exceeds the investments which have yielded exempt income and has referred to some judicial pronouncements. However, there is no finding/adjudication by ld.CIT(A) about the observation made by Assessing Officer regarding the availability of interest free funds, increase in interest free funds, application of funds and use of borrowed funds during the year showing that as against the increase in the interest free funds of Rs.18.00 crore approx. the application of income during the year in comparison to the preceeding year is Rs.31.94 crore which shows that at least Rs.13.94 crore has been applied from the borrowed funds.

14. We note that ld.CIT(A) has totally disregarded these observations of the Assessing Officer and has not made any comment on these factual aspects. Further, ld.CIT(A) has treated the total disallowance u/s.14A of the Act as having been made by Assessing Officer as interest disallowance u/s.14A r.w. Rule 8D(2)(ii) whereas the Assessing Officer has made the disallowance under Rule 8D(2)(iii) at Rs.46,08,575/- but ld.CIT(A) has not made any comment on this aspect also. It therefore indicates that ld.CIT(A) has not examined the issue in entirety and in a haste has dealt with the issue without taking care of the facts as well as the observation of the Assessing Officer. We therefore deem it proper to restore this issue back to the file of ld.CIT(A) for necessary examination. Needless to mention that ld.CIT(A) shall provide reasonable opportunity to the assessee for filing relevant details. Ground No. 1(a) and 1(b) raised by the Revenue on this issue is allowed for statistical purposes.

15. Next issue is regarding the disallowance u/s.40(a)(ia) of the Act. We note that impugned disallowance has been made for the payment made to the following non-residents without deduction of tax at source:

Sr. No. Party Name & Country of Residence Nature of Service Amount
1 Bruno Tosi, Italy Sales Representative for European Union countries 1,89,420
2 Bruno Tosi S.A.S DI Bruno Tosi & Co, Italy Sales Representative for European Union countries 93,26,201
3 John Morgan, UK Sales Representative for European Union countries 1,15,45,368
4 Marc Berendsen, Belgium Sales Representative for European Union countries 1,04,71,244
5 P.B. Salter, Belgium Sales Representative for European Union countries 48,880
6 Robert K Negley, USA Sales Representative for USA 1,26,43,031
7 Shawn J Achee, USA Sales Representative for USA 34,97,156
8 Fisk Welch Reach Services Ltd, UK Representation for obtaining registration of Phosphonates under REACH Regulations in Europe 7,46,237
9 Envigo Consulting Limited, UK Representation for obtaining registration under REACH Regulations in Europe 34,59,876
10 LSR Associates, UK Representation for obtaining registration under REACH Regulations in Europe 20,77,658
11 Solvay Solutions UK Limited, UK Services are required for obtaining REACH Registration 1,37,94,918
12 Bromine Compounds Ltd, Israel Access to MBT studies to obtain REACH Registration in European Union for Bromine Compounds. 17,06,799
13 Delta Analytical Corporation, USA Registration of products with US Environmental Agency (EPA). 24,16,350
14 Buckman Laboratories, USA Obtained report on animal testing for the purpose of REACH Registration 17,13,843
15 Deloitte Belastinggadviseurs B.V, Netherlands The services are rendered in relation to Dutch Custom Laws in Netherlands for exporting goods in European Union 43,20,195
16 TMF VAT Services Ltd, UK Filing of VAT returns in European Countries 7,57,185
17 Dezan Shira & Associate Limited, China Conducting the audit and accounts and filing of required returns for Representative Office in China. 18,61,680
18 EUMTC TaskForce, UK Dossier payment for being a part of European Union Task Force 29,53,096
19 Guo Li, China Testing of Raw Materials which are to be procured & imported from China 9,27,315
20 Guo Lijun, China Testing of Raw Materials which are to be procured & imported from China 13,06,201
21 Sino Infrastructure Partnership Ltd, China Background check of parties from whom the material must be procured & imported 3,72,484
22 SEPL, China For extracting export related data 1,05,048
23 DDC Studio, UK Services provided for designing brochure 28,679
Total 8,62,68,864

16. Further during the course of hearing, ld. Counsel for the assesee has filed a chart which has given the bifurcation of the nature of expenses indicating that Rs.4,78,55,027/- has been paid towards Export Commission and Designing Brochure and distribution to foreign customers, Rs.44,67,680/- has been incurred towards Import Inspection and Rs.3,39,46,157/- towards legal compliances. Ld. Assessing Officer has made the impugned disallowance treating the alleged sum having been paid towards Fees for Technical Services for rendering Technical, Managerial or Consultancy services and such payments do not fall in the exception provided u/s.9(1)(vii)(b) of the Act and assessee was required to deduct tax at source and in absence thereof the disallowance u/s.40(a)(ia) of the Act has been made. We note that section 9(1)(vii) has a direct bearing on this issue and the same reads as under :

“Income deemed to accrue or arise in India.

9. (1) The following incomes shall be deemed to accrue or arise in India :—

xxxxxxxxxxxxxxxxxxxxxxx

(vii). income by way of fees for technical services payable by—

(a) the Government ; or

(b) a person who is a resident, except where the fees are payable in in respect of services utilised in a business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India; or

(c) a person who is a non-resident, where the fees are payable in respect of services utilised 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

Provided that nothing contained in this clause shall apply in relation to any income by way of fees for technical services payable in pursuance of an agreement made before the 1st day of April, 1976, and approved by the Central Government.

Explanation 1.—For the purposes of the foregoing proviso, an agreement made on or after the 1st day of April, 1976, shall be deemed to have been made before that date if the agreement is made in accordance with proposals approved by the Central Government before that date.

Explanation 2.—For the purposes of this clause, “fees for technical services” means any consideration (including any lump sum consideration) for the rendering of any managerial, technical or consultancy services (including the provision of services of technical or other personnel) but does not include consideration for any construction, assembly, mining or like project undertaken by the recipient or consideration which would be income of the recipient chargeable under the head “Salaries”;

17. As per the above provision, Fees for Technical Services means any consideration paid for the rendering of a Managerial, Technical or Consultancy services including the provision of services of Technical or other Personnel but does not include consideration for any Construction, Assembling, Mining or like projects undertaken by the recipients or consideration which would be income of the recipient chargeable under the head Salaries, therefore, the payments made for Managerial, Technical or Consultancy services forms part of the Technical Services.

18. Section 9(1)(vii)(b) provides that income by way of Fees for Technical services shall be deemed to accrue or arise in India payable by a person who is a resident except when such fees is payable in respect of services utilised in a business or profession carried on by such person outside India or for the purpose of making or earning any income from any source outside India.

19. The exclusions are that if such Fees for Technical Services is paid in respect of services utilised in a business or profession carried out by such person outside India or for the purpose of making or earning any income from any source outside India. First part regarding the business or profession carried out by such outside India is not applicable to the present case and facts of the case are to be examined for the second part, i.e. incurred for the purpose of making or earning any income from any source outside India and assessee is entitled to relief if the alleged payments fall in second exception referred above.

20. In the instant case, the alleged expenses are incurred under three heads; (1) Export Commission, (2) Expenses incurred for distributing brochures to the foreign customers and (3) Expenses incurred for Imported Inspection and legal compliances.

21. So far as this issue is concerned, ld.CIT(A) has dealt with by observing as follows :

“5.2.1. I have considered the submissions made by the Appellant. I have also perused the assessment order. I find that these submissions were also made before the AO but the AO has rejected the same on the ground that the payments made for services rendered by the non-resident agents are covered u/s 9(1)(vii). The AO has analysed the nature of these services and has held that these are in the nature of domain Technical, consultancy or managerial based on some knowledge/professional skill, which squarely fall within the ambit of Fee for technical services (FTS) u/s 9(1)(vil) of the IT Act and hence taxable in the hands of non-residents. In this regard, the AO has placed reliance on various case laws. The AO has further observed that these are not covered by the exclusion provided u/s 9(1)(vii)(b) in view of the Explanation to the said section. The AO has further observed that the beneficial treatment under respective DTAAs, if any, cannot be made available to the Appellant in absence of TRCs in respect of such non- resident agents.

After considering the submissions of the Appellant and findings of the AO, I tend to agree with the Appellant as regards non-taxability of payments made to the non- residents in India and therefore, not liable to deduction of tax at source. I find that the Appellant has submitted copies of agreements entered with the non-resident agents and also TRCs in respect of some non-residents. The Appellant has requested the same to be admitted as additional evidences u/Rule 46A. In this regard, the AO was asked by my Ld. Predecessor vide letter dated 12/02/2020 to send remand report. Another reminder was issued on 24/06/2024, however, no remand report has been received from the AO so far. In view of the same, it is taken that the AO has no comments to offer on the admissibility or otherwise of these additional evidences. On the other hand, I find that the assessment order is silent on the fact that whether the AO did call for these details. In view of the same, I hold that the Appellant could not furnish these details before the AO since, it was not asked to furnish the same. In view of the same. I hold that Appellant is covered under Rule 46A(1)(c) and (d). The additional evidences are, therefore, admitted.

On perusal of these additional evidences, it is observed that payments have been made for following services to following non-resident agents:

A. Payment made as Commission to Sales Representatives

Sr No. Name of the Party Country
1 Bruno Tosi Italy
2 Bruno tosi S.A.S Di and Bruno Tosi & Co. Italy
3 John Morgan UK
4 Marc Berendsen Belgium
5 P.B. Salter Belgium
6 Robert Kent Negley U.S
7 Shawn Achee U.S

B. Services in relation of REACH registration and services in relation to VAT filing in European Countries, compliance of customs law and Audit and account filing at liasion office / representative office

Sr No. Name of the Party Country
1 Fisk-Welch reach Service Ltd UK
2 Envigo Consulting Limited (Later changed the name to LSR Associates Ltd) UK
3 LSR Associates Ltd UK
4 Solvay Solutions UK Limited UK
5 Bromine Compounds Ltd Israel
6 Delta Analytical Corporation U.S
7 Buckman Laboratories U.S
8 Deloitte Belastingadviseurs B.V Netherlands
9 TMF Vat Services Ltd UK

C. Services in relation to testing & inspection of raw materials

Sr No. Name of the Party Country
1 Guo Li China
2 Guo Li Jun China
3 Dezan Shira & Associates Ltd China
4 Sino Infrastructure Partnership Ltd China

In view of facts of the case as discussed hereinabove, the issue that arises for consideration whether these non-resident agents are covered u/s 9(1)(vii) or not. It is the case of the Appellant that these non-residents are covered under the exclusion provided u/s 9(1)(vii)(b) i.e. “except where the fees are payable in respect of services utilised in a business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India”. However, the AO has observed that this is not relevant in view of the Explanation to said section:

“Explanation.—For purposes of this section, i

(i) the non-resident has a residence or place of business or business connection in India; or

(ii) the non-resident has rendered services in India.”

In this regard, I find thar that there is recent decision of Hon’ble ITAT Delhi in the case of HCL Singapore PTE. Ltd Vs ACIT (ITAT Delhi), ITA No. 537/Del/2021, dated 20/12/2023wherein this issue has been decided in favour of the assessee. While deciding the issue, the Hon’ble ITAT has placed reliance on various decision of High Court. Hon’ble ITAT has also considered the impact of Explanation on section 9(1)(vii)(b)and has concluded that exclusion as carved laced out u/s 9(4)(vii)(b) will continue. In this regard, the Hon’ble pa anes the reliance on the decision of Hon’ble Jurisdictional High Court of Mumbai case of CIT vs Indusind Bank Ltd reported in 415 ITR 115 (Bom). Relevant part of the decision of Hon’ble ITAT Delhi is reproduced below for reference:

“95, Even if it has to be assumed that the payment made by HCLT for onsite services rendered by the assessee is to be construed as FTS, in any event, we find that Section 9(1)(vii)(b) of the Act carves out a second exception to the taxability of FTS paid by a resident, wherein the fee for technical services payable in respect of services utilized for the purpose of making or earning any income from any source outside India is not an income within the ambit of section 9 of the Act. We find that HCLT had concluded its agreements with the customers in the country of the customers which is situated outside India; that the onsite services are rendered by the assessee outside India at the customer’s location and no part of the service/ software program is sent or performed in India ; the services are directly performed on the customer’s server located abroad and delivered directly to them outside India ; and that the payment for onsite services is also received by HCLT from outside India in foreign exchange from the foreign customers. Hence it is very clear that the source for making or earning any income of the payer of fee for technical services, in the present case, is outside India, and therefore not taxable in India. In this regard, we find that the Id. AR rightly placed reliance on the decision of co-ordinate bench of Delhi Tribunal in the case of Chander Mohan Lall vs ACIT reported in 134 taxmann.com 292 (Delhi Trib) wherein the issue of making payment by resident Indian lawyer to the foreign attorneys for certain services rendered by them (i.e foreign attorneys) outside India were sought to be treated as FTS was subject matter of consideration. The Tribunal held as under:- ~~

“21. At this stage, we must observe, learned Departmental Representative has submitted before us that the payments made by the assessee being in the nature of FTS are taxable by applying the source rule. In our view, even assuming that payments made by the assessee come within the ambit of section 9(1)(vii) of the Act, nonetheless, the exception provided under clause (b) to Section 9(1)(vii) would apply. We have already examined the nature of services provided by the foreign attorneys. It is a fact that Indian/overseas clients engage the assessee for availing certain services. In turn, assessee engages the foreign attorneys to perform certain services which are required to be performed in foreign jurisdictions. There is no privity of contract between the assessee’s clients and foreign attorneys. In fact, the clients are no way concerned, whether the assessee does the work himself or engages others.

Thus, the source of income of the assessee through services rendered by non- resident attorneys in foreign jurisdictions is located outside India. That being the case, exception provided in clause (b) of section 9(1) (vii) would apply. Hence, the payments are not taxable as FTS. 22. In any case of the matter, the departmental authorities have disallowed a part of the expenditure for the only reason that assessee failed to furnish the TRC of the The departmental authorities have not at all examined the taxability of payments under the applicable DTAAs. 23. Be that as it may, on overall analysis of facts and applicable statutory provisions as well as keeping in view the ratio laid down in the decisions cited before us, we hold that the payments made to foreign attorneys are not chargeable to tax under the provisions of the Act, in terms of section 195 of the Therefore, the assessee was not required to withhold tax on the payments made. Accordingly, we delete the disallowance made under section 40(a)(i) of the Act.”

25.1 We find that similar view was also taken by the Hon‘ble Gujarat High Court in the case of PCIT vs Motif India Infotech (P) Ltd reported in 409 ITR 178 (Guj). In that case, that assessee was engaged in the business of software development and was providing software related services to its overseas clients. It hired services of a Philippines company for rendering human resource and infrastructure services to its foreign based client. The Hon‘ble Gujarat High Court held that FTS paid by that assessee to the Philippines company clearly fell in the exception contained in section 9(1)(vii)(b) of the Act. It was held that such fee was paid by the assessee for the purpose of making or earning any income from a source outside India.

25.2 Respectfully following the aforesaid decisions that are binding on us, it emerges that source of income refers to something from where the income flows. In the present case, the fact that the services rendered by the assessee were utilized in respect of customers of HCLT located outside India ; the ultimate delivery of the software was outside India, e., at the customers’ location; the contract was effectively concluded outside India; that no part of the services rendered by the assessee are transferred to India; that the source of income of the payer in respect of which payment was madeto the assessee was outside India and hence, the said payment in the hands of the assessee did not accrue or arise in India in terms of section 9(1)(vii)(b) of the Act.

…………………………..

30. In our considered opinion, the aforesaid amendment vide insertion of Explanation to section 9 does not nullify the exception provided in section 9(1)(vii)(b) of the In other words, even where the non-resident has provided services outside India and received payment therefore, the payment would not be deemed to accrue or arise in India, if the services provided by the non-resident are utilized by the resident in a business carried on outside India and/ or for the purposes of earning income from any source outside India. This view of ours is further fortified by the decision of Hon‘ble Bombay High Court in the case of CIT vs Indusind Bank Ltd reported in 415 ITR 115 (Bom), wherein, in the context of the obligation to deduct tax at source u/s 195 of the Act after the retrospective amendment in section 9 of the Act made vide Finance Act, 2010 in respect of technical services rendered by the non- resident service provider, the Hon‘ble High Court observed that the condition precedent for attracting the obligation for deduction of tax at source is that the services should be utilized in India, even though the requirement of rendition of services in India is no longer relevant. In that case, the assessee Bank decided to raise capital abroad through the issuance of Global Depository Receipts (‘GDRs’). The assessee paid Amas Bank (UAE), agency charges on which tax was not deducted at source on the ground that the foreign payee had no tax obligation in India. The stand of the assessee was negated by their Assessing Officer and CIT(A). The Tribunal, however, reversed the decision of the lower authorities and allowed the bank’s appeal, essentially observing that “services rendered by Amas Bank were purely of commercial nature and bore the character of income arising to it wholly outside India, emanating from commercial services rendered by the Bank in the course of carrying on of its business wholly outside India. Such services were neither rendered in India nor utilized in India and therefore, such services did not partake the character of fees for technical services liable to tax in India. On appeal by the Revenue, the Hon’ble High Court dismissing the appeal observed as under:

“6. As is well known, under sub-section (1) of Section 195 of the Act, any person responsible for paying to a non-resident any other sum chargeable under the provisions of the Act (not being income chargeable under the head “salaries”), would at the time of credit of such income to the account of the payee or at the time of payment in cash or by issuance of cheque or draft or by any other mode, whichever is earlier deduct income tax thereon at the rates in force. It is, thus, indisputable that the requirement of deducting tax while making such payment would arise only if payee has the liability to pay tax on such India Technology Centre (P.) Ltd. v. CIT [2010] 7 payment. In case of G Taxman 234/327 ITR 456 (SC), this aspect was elaborately discussed by the Supreme Court. It was held that the expression “chargeable under the provisions of the Act” in Section 195(1) shows that the remittance has got to be of a trading receipt, the whole or part of which is liable to tax in India. It was observed that if the tax is not so assessable, there is no question of tax at source being deducted. With this background, we may revisit the nature of transaction between the assessee and Amas Bank. We may recall the assessee desired to raise capital through Global Depository Receipts. To assist the assessee in such process, the assessee had engaged Amas Bank for certain financial services. The payment was made for such financial services rendered by Amas Bank. The GDR was issued outside India. The services were rendered by Amas Bank outside India for raising such funds outside India. It was, in this context, the Tribunal had, as noted above, come to the conclusion that the services rendered by Amas Bank were neither rendered in India nor utilized in India and the character of income arising out of such transaction was wholly outside India emanating from commercial services rendered by the bank in course of carrying business wholly outside India. The Tribunal was, therefore, correctly of the opinion that such services cannot be included within the expression technical services in terms of Section 9(1 )(vii)(b) read with Explanation to Section 9. 7. Learned counsel for the Revenue, however, put stress on two successive First of inserting the Explanation to Section 9 by Finance Act of 2007 w.r.e.f. 1.6.1 976 and subsequently replacing it by Finance Act of 2010 w. r. e. f. 1.6. 1976. By virtue of this explanation, whether or not the non-resident has a residence or place of business connection in India, or had rendered services in India, would be inconsequential when one decides whether in terms of Section 9(1 ) of the Act, the income was to be charged i in India or not.

He submitted that Section 9 gives rise to deeming fiction which must be allowed to take its full effect. 8. As is well known, Section 91 ) of the Act specifies the incomes which would be deemed to be accrued or arise in Clause (vii) thereof reads as under:— “(vii) income by way of fees for technical services payable 9. An explanation was inserted at the end of Section 9 by Finance Act of 2007, w.r.e.f. 6.1976 which reads as under:—

“Explanation — For the removal of doubts, it is hereby declared that for the purposes of this section, where income is deemed to accrue or arise in India under clauses (v), (vi) and (vii) of sub-section (1), such income shall be included in the total income of the non-resident, whether or not the non- -resident has a residence or place of business or business connection in India.”

33. From the perusal of the aforesaid statements of various employees which were recorded during the course of survey by the TDS officers, which were heavily relied upon by the Id. AO by cherry picking some of the questions and answers alone given by them, we find that prima facie all the statements of employees actually support the contentions of the assessee herein. From the aforesaid statements, it emerges that the offshore project lead or project manager of HCLT manages his offshore team in India, whereas the assessee’sproject lead manages his team independently, which executes work from the overseas locations directly on the customer’s server. Both the project managers/ leads only coordinate with each other on need basis; that each team of HCLT and the assessee develops the particular modules as assigned to them; that the delivery team of the assessee reports to the delivery manager who sits in the foreign country and the delivery team of HCLT reports to the delivery manager who sits in India; that both onsite and offsite personnel of the assessee and HCLT respectively are responsible for writing the code; that the offshore teams of HCLT work directly with customer managers or through project managers in India and the onsite team engineers belonging to the assessee company work directly with foreign customer’s managers; that in majority of the projects, the entire development environment is owned by foreign customer; that the code and test scripts are worked on from foreign customers’ servers and provided directly on the said servers; that the integration is normally done through Customer build machines that integrate the various units of code into a solution.

34. In view of the aforesaid observations and respectfully following the various judicial precedents relied upon hereinabove, we have no hesitation to conclude that the payments made by HCLT to the assessee could not be construed as Fee for technical services and accordingly the same is not taxable in the hands of the assessee in India as per the domestic law. Accordingly, the Ground Nos. 3,4,7 & 8 raised by the assessee are disposed off in the aforementioned terms.”

Thus, in view of facts of the case and respectfully following the decision of Hon’ble ITAT Delhi in the case of HCL Singapore PTE. Ltd (supra), I hold that since, the non-resident agents have rendered services outside India and the same has been rendered for earning income from sources outside India, payments made by the Appellant to the non-resident agents for such services do not qualify for FTS in view of the exclusion provided u/s 9(1)(vii)(b) of the Act. These payments are, therefore, not liable to be taxed in India as not being in the nature of FTS. Also, in absence of any PE in India, these payments are not liable to be taxed in India in the hands of the non-resident agents as ‘business income’. In view of these findings, I hold that the non-resident agents are not liable to tax in India in respect of payments received by them from the Appellant for various services rendered outside India. In view of the same, provisions of section 40(a)(ia) of the Act, is not applicable on payments made by the Appellant to the non-resident agents. Accordingly, the addition of Rs. 8,62,68,864/- made u/s 40(a)(ia) of the Act, is directed to be deleted. Ground is, thus, allowed.

5.3 As regards Ground 3, since the Appellant has not added, amended, modified, rectified, deleted, raised any grounds of appeal at the time of hearing, the same is dismissed as not pressed.

5.4. As regards the Additional Ground, the appellant has submitted that it does not wish to press the additional ground in view of the retrospective amendment brought by Finance Act, 2022 in section 40(a)(ii) by inserting in Explanation that surcharge and health and education cess shall be deemed to be part of ‘tax’. The ground is, therefore, dismissed as not pressed.

6. In the result, the Appeal is partly allowed.

22. Ld.CIT(A) while deleting the impugned disallowance has only made discussion with regard to the payments made to non-resident agents having rendered services outside India. Ld.CIT(A) has not discussed the factual aspect about the Import Inspection as to whether they are connected with any services for earning income outside India because apparently these are payments made for Import Inspection for purchasing goods from outside India and secondly legal compliances payments made to Deloitte Belastinggadviseurs B.V. and other for the consultancy services, payments made for audit of the office at China, payments made to the representatives for services for obtaining REACH registration in Europe without examining the facts and nature of expenditure (FTS) and whether they squarely fall under the exception provided u/s.9(1)(vii)(b) of the Act. Otherwise whatever expenses incurred by an assessee outside India shall be claimed to have been incurred for the purpose of making or earning any income from any source outside India and the provisions of section 9(1)(vii)b) will become almost redundant. The exception provided u/s.9(1)(vii)b) of the Act are very specific and clearly indicates that only if a person carries on business outside India for example runs branch office or has taken registration in some other country and then some expenses have been paid by the resident for such business or profession, then deeming provisions will not apply. Similarly if the payments are made for earning any income from any source outside India like export of goods or services which basically show that the assessee will be earning foreign currency which is beneficial to the country and therefore any expenses towards Fees for Technical Services incurred in connection thereto, then only such Fees for Technical services payable by Resident Indian will fall under the exception.

23. From going through the above finding of ld.CIT(A), we find that so far as issue relating to disallowance u/s.40(a)(ia) on the expenditure incurred towards Export Commission and Designing Brochure and distribution to foreign customers is concerned, there is no dispute that these are incurred for getting export orders of the overseas customers and the commission has been paid and therefore it is clearly the expenses incurred for the purpose of making or earning income from any source outside India and therefore the exception carved out in section 9(1)(vii)(b) of the Act applies to this alleged payment of Rs.4,78,55,027/- made to non-residents having no Permanent Establishment in India and therefore to this extent finding of ld.CIT(A) needs no interference and the disallowance u/s.40(a)(ia) of the Act has rightly been deleted for the said sum.

24. So far as the expenditure relating to Import Inspection at Rs.44,67,680/- is concerned, we firstly find that the said payments clearly fall in the category of Fees for Technical Services for the purpose of rendering Managerial, Technical or Consultancy services. Import Inspection expenditure also needs technical expertise and legal compliance is clearly Consultancy services and they are covered in the definition of Fees for Technical services provided in Explanation 2 to section 9(1)(vii)(b) of the Act. However, import inspection expenditure by any stretch of imagination cannot be considered as an expenditure incurred for earning income from any source outside India because the assessee is paying for the import inspection and Goods imported may be used in the domestic market for selling, manufacturing or may be to a remote extent can be utilised for doing export business but certainly does not fall clearly in the category or making or earning of any income from any source outside India and therefore this being a payment for Fees for Technical services, clearly does not fall in the exception provided in section 9(1)(vii)(b) of the Act. The income of such non- resident is deemed to accrue or arise in India and thus call for deduction of tax at source. In absence thereof, finding of ld.CIT(A) on this issue is set aside and disallowance u/s.40(a)(ia) of the Act at Rs.44,76,680/- is sustained.

25. Next issue is the legal compliances expenses of Rs.3,39,46,157/-. We find that the alleged sum falls under Fees for Technical Services but ld.CIT(A) has not examined the facts of the case as to whether these legal compliance expenses are in connection to the Export business of the assessee or with regard to any other services rendered by such non-residents for any activity carried out by the assessee in India or for the purpose of importing goods. Ld.CIT(A) has given general finding and not dealt with the technical aspect. Even the Tax Resident Certificate of the non-resident vendors have not been submitted before the Assessing Officer. Under these given facts and circumstances, we deem it proper to restore this issue for examination of disallowance u/s.40(a)(ia) of the Act for the expenses incurred for legal compliances at Rs.3,39,46,157/- paid/payable to Ten Non-residents to the file of ld.CIT(A) for necessary examination to verify whether the case of the assessee falls under any exception provided u/s.9(1)(vii)(b) of the Act. We therefore conclude that the expenditure incurred for legal compliances falls in the category of Fees for Technical services for rendering Managerial, Technical or Consultancy services but the limited purpose of restoring the issue to ld.CIT(A) is to examine whether these are incurred for the purpose of making or earning any income from any source outside India. If needed, remand report may be called for from the ld. Jurisdictional Assessing Officer for any details filed for the first time before ld.CIT(A). Needless to mention that ld.CIT(A) shall provide reasonable opportunity to the assessee.

26. To conclude, out of the total disallowance of Rs.8,62,68,864/- made by ld. Assessing Officer u/s.40(a)(ia) of the Act, disallowance of expenditure incurred towards Export commission at Rs.4,78,55,027/- has rightly been deleted by ld.CIT(A), disallowance u/s.40(a)(ia) of the Act for the expenses incurred on Import Inspection at Rs.44,78,680/- is hereby sustained and the remaining amount of disallowance at Rs.3,39,46,157/- for expenses incurred towards legal compliances paid/payable to non-residents, the matter has been restored to the file of ld.CIT(A) for afresh adjudication. Grounds of appeal raised by the Revenue are partly allowed for statistical purposes.

27. In the result, the appeal of the Revenue is partly allowed for statistical purposes whereas the cross objection of the assessee is dismissed.

Order pronounced on this 25th day of September, 2026.

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CA Sandeep Kanoi
Name: CA Sandeep Kanoi
Qualification: Graduate, CA in Job / Business, DD
Company: Taxguru Consultancy
Location: Mumbai, Maharashtra
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