Client coordination fees cannot be termed as royalty

IN THE ITAT MUMBAI BENCH ‘L’

Deputy Director of Income-tax (IT)

Versus

Euro RSCG Worldwide Inc.

IT Appeal No. 7094 (Mum.) of 2010

[Assessment year 2010-11]

NOVEMBER 27, 2012

ORDER

B. Ramakotaiah, Accountant Member

This is a Revenue appeal against the orders of the CIT (A)-10 Mumbai dated 30.07.2010. The Revenue has raised two grounds which are as under:

“1.  On the facts and in the circumstances of the case and in law, the learned CIT (A) erred in deleting the payment of Rs. 27,63,150/- received from ERAPL for providing assistance in client coordination as Royalty under Article 12 of India-USA Treaty.

 2.  On the facts and in the circumstances of the case and in law, the learned CIT (A) erred in directing to tax @10% instead of @15% as Fees for included service on the payment received for creative fees and data base cost on amount of Rs. 48,03,630/- as provided for in the Indo-USA DTAA”.

2. Brief facts are that the Euro RSCG Worldwide Inc, New York is a company incorporated under the laws of USA. Assessee is a resident of USA. Accordingly as per section 90(2) of the Income Tax Act, 1961, assessee has opted to be taxed as per provisions of Double Taxation Avoidance Agreement (DTAA) between India and the USA. Euro RSCG Worldwide Inc acts as a communicating interface between multinational clients and various EURO entities each in the region. Euro RSCG Worldwide Inc for some of the key multinational clients of the Euro Group has set up a centralized group of persons who act principally as a communication channel between any local Euro entity and the client. This team is typically serves as a common and centralized point of interaction for the clients. This ensures that the work produced is of an international standard that meets the client’s expectations. Euro Worldwide Inc incurred cost as salaries, overheads etc. in connection with the coordination services being rendered by team to various Euro entities. Since the local Euro entities benefit from the central coordination services, Euro Worldwide Inc charged the local entity for such services. In addition, Euro Worldwide Inc on a need basis provides business development and managerial assistance to the local Euro entities in the region. During the year under consideration assessee has provided certain assistance to Euro RSCG Advertising Private Limited (EARPL) and incurred certain costs on behalf of EARPL and received consideration of Rs. 75,66,780 for the said costs. The Euro RSCG Worldwide Inc has invoiced the following amounts to ERAPL:

3. Assessee filed return of income on 10-12-1999 showing total income at Nil claiming that the payments received from ERAPL are taxable as business profit under Article 7 of India-US DTAA and since assessee has no PE in India, the said receipts are not taxable in India. AO however, did not agree and held that these amounts are in the nature of royalty and taxed @15%.

4. In appeal, the learned CIT (A) considered the nature of the services rendered and the fees paid and held that the amount received from EARPL towards client coordination fees is in the nature of business profits and since assessee does not have a permanent establishment in India, the question of taxability of impugned amount does not arise in the absence of PE as provided for in Article 7 of the DTAA. With reference to the creative fees and the database cost, the CIT (A) was of the opinion that they are in the nature of fees for included services as provided under the DTAA and held that they are taxable in India.

5. Assessee has accepted the findings of the CIT (A) on the above two amounts, whereas Revenue is aggrieved on the deletion of client coordination fee from taxing as royalty.

6. We have heard the learned DR and the learned Counsel. The reasons for excluding the clients coordination fees by the CIT (A)are as under:

“2.2 The AR submitted that Euro RSCG Worldwide Inc only assists in coordinating and interacting with multinational clients. Euro RSCG Worldwide Inc acts as a communication channel between EARPL and its clients. Consequently, client coordination fees paid to Euro RSCG Worldwide Inc cannot be termed as royalties since it is not a consideration for the use of right to use any of the specified terms mentioned in the definition. Further, the copyright and the property of all work products including development of ideas and creative services rest with the clients and not with EARPL or Euro RSCG Worldwide Inc. Hence question of Euro RSCG Worldwide Inc providing EARPL with the right to use the copyrights does not arise. Also there is no imparting of technical knowledge/ know-how by assessee. AO’s contention that the clients coordination services rendered by Euro RSCG Worldwide Inc involve the use of plan, secret formulae or process by EARPL is not tenable. Therefore, the client coordination fees are not royalty. The AR further referred the Tribunal decision in the case of an associate company M/s Euro RSCG (s) Pte Ltd (one of the group companies of Euro RSCG Worldwide Inc [ITA No.7561/Mum/2004 (AY 99-00) dated 8-10-2009] the L Bench of Tribunal held that the amount of Rs. 5,155,840 representing as coordination fees was not taxable on the ground that the assessee company does not have PERMANENT ESTABLISHMENT (copy of the order is filed and placed on record). The AR also relied in the case of Cushman % Wakefield(s)Pte Ltd (218 CTR 238) (AAR) wherein it was held that referral fees received in Singapore by applicant, from Indian company is not royalty nor accrued in India and the applicant has no PE therefore not taxable in India. Further without prejudice, services rendered by appellant, being in the nature of coordination services do not qualify as fees for included services as defined under Article 12 of India-US DTAA.

2.3. I have considered the facts and perused the material on record. AO has held that the impugned payments are Royalty as per Article 12 of DTAA. It is seen that the ERAPL serves certain multinational clients in India who have principal offices located outside India and the appellant has agreed to serve EARPL to help to act as coordinating agency as required by such multinational clients. For this purpose, the ERAPL has to pay to the appellant certain amount of annual billings. Thus, the appellant maintains communication channel between ERAPL and its clients the client coordination fees paid to the appellant cannot be termed as Royalty because it is not a consideration for the use of right or to use any of the specified terms mentioned in the definition of Royalty under Article 12 of Indo US DTAA. The observation of AO that the client coordination services rendered by the appellant involve the use of a plan, secret formula, or process by ERAPL is without any basis. The client coordination fees can be taxed as business profits only. Since the appellant admittedly does not have a permanent establishment India, the question of taxability of the impugned amount in India would not arise in the absence PE, as provided for in Article 7 of DTAA. In view of these facts, this ground of appeal is decided in favour of the appellant”.

Nothing was brought on record to counter the findings of the CIT (A). Considering the nature of the payment and the order in the group company by ITAT which was relied on by the CIT (A), we agree on his findings and dismiss Ground No.1.

7. Ground No.2 is with reference to the benefit of allowing lower rate of tax under Article 12 of Indo-US DTAA. As briefly stated AO taxed the entire amount at 15% as royalty whereas the CIT (A) held only two amounts are to be considered as fee for included services. However, assessee contested before the CIT(A) the application of rate of tax at 15% as an alternate ground stating that in case the amounts are held as royalty, the lower rate of tax under article 12 of Indo-US DTAA will apply. The CIT (A) without much discussion directed AO to tax @10% vide Para 4.1 as under:

“4.1. The AR submitted that the appellant has not filed Taxes Residency Certificate with AO and consequently AO did not allow the lower rate of taxation as per provisions of DTAA. The appellant has now filed a TRC before me. Therefore, there would be no reason for not applying the law rate has provided for in the India US Double Taxation Avoidance Agreement. Since I have already deleted the addition of clients coordination fees held by AO as Royalty in ground No.2 above, there would be a no question of applying any tax rate on such amount. However, the amounts in respect of creative fees and database costs would be liable to tax at the rate of 10% as fees for included services as provided under the DTAA. This ground of appeal is disposed off accordingly”.

8. After considering the rival submissions, we are of the opinion that the direction of the CIT (A) is not correct and this has to be modified. The Article 12 is as under:

“ARTICLE 12

Royalties and fees for included services

1. Royalties and fees for included services arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State.

2. However, such royalties and fees for included services may also be taxed in the Contracting State in which they arise and according to the laws of that State; but if the beneficial owner of the royalties or fees for included services is a resident of the other Contracting State, the tax so charged shall not exceed:

(a)  in the case of royalties referred to in sub-paragraph (a) of paragraph 3 and fees for included services as defined in this Article (other than services described in sub-paragraph (b) of this paragraph):

(i)  during the first five taxable years for which this Convention has effect,

(A) 15 per cent of the gross amount of the royalties or fees for included services as defined in this Article, where the payer of the royalties or fees is the Government of that Contracting State, a political sub-division or a public sector company; and

(B) 20 per cent of the gross amount of the royalties or fees for included services in all other cases; and

(ii)  during the subsequent years, 15 per cent of the gross amount of royalties or fees for included services; and

(b)  in the case of royalties referred to in sub-paragraph (b) off paragraph 3 and fees for included services as defined in this Article that are ancillary and subsidiary to the enjoyment of the property for which payment is received under paragraph 3(b) of this Article, 10 per cent of the gross amount of the royalties or fees for included services.

3. The term ‘royalties’ as used in this Article means:

(a)  payments of any kind received as a consideration for the use of, or the right to use, any copyright of a literary, artistic, or scientific work, including cinematograph films or work on film, tape or other means of reproduction for use in connection with radio or television broadcasting, any patent, trademark, design or model, plan, secret formula or process, or for information concerning industrial, commercial or scientific experience, including gains derived from the alienation of any such right or property which are contingent on the productivity, use, or disposition thereof; and

(b)  payment of any kind received as consideration for the use of, or the right to use, the industrial, commercial, or scientific equipment, other than payments derived by an enterprise described in paragraph 1 of Article8 (Shipping and Air Transport) from activities described in paragraph 2(c) or 3 or Article 8.

4. For purposes of this Article, ‘fees for included services’ means payments of any kind to any person in consideration for the rendering of any technical or consultancy services (including through the provision of services of technical or other personnel) if such services:

(a)  are ancillary and subsidiary to the application or enjoyment of the right, property or information for which a payment described in paragraph 3 is received; or

(b)  make available technical knowledge, experience, skill, know- how, or processes, or consist of the development and transfer of a technical plan or technical design.

5. Notwithstanding paragraph 4, ‘fees for included services’ does not include amounts paid:

(a)  for services that are ancillary and subsidiary, as well as inextricably and essentially linked, to the sale of property other than a sale described in paragraph 3(a);

(b)  for services that are ancillary and subsidiary to the rental of ships, aircraft, containers or other equipment used in international traffic;

(c)  for teaching in or by educational institutions;

(d)  for services for the personal use of the individual or individuals making the payment; or

(e)  to an employee of the person making the payments or to any individual or firm of individuals (other than a company) for professional services as defined in Article 15 (Independent personal services).

6….”

As per the Article 12(2)(b) the rate of 10% is applicable in the case of royalty referred to in sub-paragraph of 3(b) and fees for included services as defined under this article that are ancillary and subsidiary to the enjoyment of the property for which payment is received under Para 3(b) of Article. Since the amounts are not royalty being considered either 3(a) or 3(b), the rate of 10% on FIS is not correct. There is nothing on record that indicates that rate specified under Sub-Article (2)(b) is applicable and not (2)(a)(ii). Therefore, upholding the Revenue ground, we direct the AO to tax the above amounts confirmed by CIT(A) as FIS at 15% of the rate. Ground. 2 is allowed.

9. In the result, appeal filed by the Revenue is partly allowed.