Case Law Details
Limitation on deduction of expenses under Section 44D of the Act cannot be invoked if the consideration received by the foreign company is not Fees for Technical Services as defined in India-USA tax treaty
Delhi bench of the Income-tax Appellate Tribunal (the Tribunal) in the case of Cray Research India Ltd v. JCIT [2010-TII-156-ITAT-DEL-INTL] (Judgement date 29 October 2010 Assessment Years 1989-90, 1993-94 & 1994-95)held that limitation on deduction of expenses under Section 44D of the Income-tax Act, 1961 (the Act) cannot be invoked if the consideration received by the foreign company is not Fees for Technical Services (FTS) as defined in India-USA tax treaty (tax treaty).
Further, the Tribunal held that the maintenance charges received by the taxpayer from Department of Science & Technology for maintaining the super computer are not in the nature of FTS as per the tax treaty.
Facts of the case
• Cray Research Inc, a tax resident of the USA, entered into agreement with the Department of Science and Technology, for supplying a computer system and its peripherals. The taxpayer, a company incorporated in USA, was assigned a service contract for maintaining the computers in good operative condition.
• The AO held that the amount received by the taxpayer from the Ministry of Science & Technology towards maintenance services was in the nature of FTS as defined in Explanation 2 to clause (vii) of sub-section (1) of section 9 of the Act.
• Accordingly, the AO taxed the amount received by the taxpayer on gross basis at 30 percent by applying the provisions of Section 44D read with Section 11 5A3 of the Act.
Tax department’s contentions
• The amount received by the taxpayer from the Ministry of Science & Technology towards maintenance services was in the nature of fees for technical services as defined in Explanation 2 to clause (vii) of sub-section (1) of section 9 of the Act.
• The taxpayer has a project office in India which has been set up for providing maintenance service to the Department of Science and Technology and thus has a Permanent Establishment (PE) in India as defined in Article 5 of the tax treaty. The payments for maintenance charges are directly attributable to this PE and accordingly the payments have to be taxed as per the provisions of Article 7 of the tax treaty.
• As per clause 3 of Article 7 of the tax treaty, in determination of the profits of a PE, only such expenses and deductions shall be allowed which are in accordance with the provisions of and subject to the provisions of the Act.
• Section 44D of the Act states that no deduction is admissible in the case of FTS earned by the foreign company and is to be taxed at gross basis under Section 115A of the Act.
Taxpayer’s contentions
• The taxpayer is incorporated in USA and therefore has an option to be governed by the tax treaty if the provisions of tax treaty are beneficial to the taxpayer.
• The payment in question was not in the nature of fees for included services as per the tax treaty. It was further submitted that the payment will be covered under article 7 of the tax treaty as business profit and it shall be taxed accordingly.
Tribunal’s ruling
• Reliance was placed on the Mumbai Tribunal’s decision in the case of DCIT v. Boston Consulting [2005] 94 ITD 31 (Mum) wherein it was held that Section 44D of the Act is titled as “Special Provisions for computing income by way of royalties, etc. in case of foreign companies”. Receipts for which profits are computed under Article 7(3) of the tax treaty but which do not fit the description of royalty and FTS under the tax treaty , the limitation of deduction of expenses under Section 44D cannot be applied.
• During the proceedings before the CIT(A), the AO himself has categorically stated that the consideration received by the taxpayer for maintenance services are not in the nature of FTS as defined under Article 12 of the tax treaty.
• Accordingly, the Tribunal held that the maintenance charges received by the taxpayer from Department of Science & Technology for maintaining the super computer are not in the nature of FTS as per the definition in the tax treaty.
• Further relying on the Mumbai Tribunal’s decision in the case of Boston Consulting, the Tribunal held that since the charges received by the taxpayer were not in the nature of FTS as per the tax treaty, Section 44D and read with Section 11 5A of the Act is not applicable.
Our Comments
This is a welcome ruling by the Delhi Tribunal where it has been held that limitation on deduction of expenses under Section 44D of the Act cannot be invoked if the consideration received by the foreign company is not FTS as defined in India-USA tax treaty.
It is pertinent to note that recently, the Delhi Tribunal in the case of Rolls Royce Industrial Power Ltd. Vs. ACIT [2010-TII-139-ITAT-DEL-INTL] held that on harmonious reading of the tax treaty and the Act, a dis allowance under section 44D of the Act could not be made in a case where Article 7 of a tax treaty is being applied.
