Only if income is arising directly or indirectly through or from any business connection in India , it can be taxed – If it is found that income accruing in India is consumed by payment made to agents in India, no income is left to be taxed : ITAT

NEW DELHI, JAN 10, 2008 : THE appellant, a tax resident of Spain, has developed a fully automatic computer reservation and distribution system, with the ability to perform comprehensive information, communications, reservations, ticketing, distribution and related functions on a worldwide basis for the travel industry, particularly participating airlines, hotels etc. (hereinafter referred to as ‘ CRS ‘).

Various Airlines all over the world have entered into ‘Participating Carriers Agreements’ (‘the PCA’) with the appellant for display of their information/ products, etc. through the CRS . The appellant receives payment from the Airlines in the form of ‘booking fee’, which is computed on the basis of the ‘net booking’ made through use of CRS .

The business model is summarized thus:

Traditionally, a passenger intending to undertake a travel would approach a travel agent for booking of ticket on a particular Airline. The travel agent would consult the ABC books of the various airlines to find out the Airline which would suit the passenger. Once the flight on a particular Airline was finalized, the travel agent would contact the Airline through telephone or telex to obtain information about the availability of seat on the flight. If the seat is available the travel agent would book the ticket. On booking of ticket a contract would come into existence between the Airline and the passenger. The travel agent would get commission from the Airline for booking of ticket with that Airline. The Airline would earn revenue in the form of air fare.

What CRS has done is made this whole process simpler, less time consuming and cost effective. The ABC books of the Airlines have been replaced by the CRS . The old means of communication have been replaced by electronic means of communication. Instead of telephone/telex, we now have terminal of the subscriber/travel agent connected with the mainframe of the appellant with the help of the leased telephone lines. Instead of looking into the ABC books of the Airlines, a travel agent, using his terminal which is connected to the appellant’s mainframe, places a request with the mainframe of the appellant in Germany . The mainframe of the appellant, which is connected with the Airlines on-line inventory systems (the Airlines host) located across the globe, processes the request and sends the result which is displayed at the terminal of the travel agent. From this information the travel agent, in consultation with the passenger, selects the flight and places a request for booking with the Airlines host which is routed through the mainframe of the appellant. The Airlines host, depending upon the availability of the seats, processes the request and sends the result to the travel agent which is once again routed through the mainframe of the appellant.

The business of the Airlines is promoted if the information regarding the Airlines is easily and promptly available to the people including travel agents. Therefore, various Airlines all over the world have entered into PCA with the appellant for display of their information/ products, etc. through the CRS . The responsibilities of the appellant and participant Airlines are stated in Articles 2 & 3 of the PCA. Article 4 of the PCA provides that the appellant would receive payment for display of Airline information through CRS , in the form of ‘booking fee’ which would be computed on the basis of the net booking made using the CRS . Therefore, the appellant, in order to augment its revenues, is required to advertise and promote the use of CRS through which information about the Airlines is disseminated.

In order to promote the use of CRS in various countries, the appellant has entered the DAs with various National Marketing Companies (NMCs) incorporated in the respective countries for distribution/ marketing of the CRS . As per the DA, the NMCs are required to seek subscribers to the CRS (normally travel agents) and enter into SBA with them. As per the provisions of the SBAs, the NMCs configures the computers, etc. installed at the premises of the travel agents and carries out certain programming/ modification and other activities in order to provide connectivity/ access to the travel agents to the CRS . The NMCs also trains the travel agents regarding the use of the CRS . The appellant pays the NMCs ‘distribution fees’ for the aforesaid services rendered by the NMC . The ‘distribution fee’ is computed on the basis of the segments booked through the CRS by the subscribers/ travel agents.

The connectivity between the Amadeus mainframe computer and the PCs of the travel agents is provided by Societe International Telecommunication Aeronautica (SITA) worldwide. The expenses in relation to such connectivity are borne by the appellant.

AIPL is the NMC in India with which the appellant has entered into the DA. The appellant does not have any financial interest or shareholding in AIPL. The job of AIPL is to canvass the use of CRS in India and enter into contract with the subscribers/ travel agents willing to use CRS for which it receives ‘distribution fee’ from the appellant. The ‘distribution fees’ is computed on the basis of the segments booked using the CRS by the subscribers/ travel agents in India .

AIPL has, in turn, entered into the SBAs with the subscribers/ travel agents in India willing to use CRS . The appellant is not party to such SBAs, but the terms agreed upon by AIPL with subscribers binds the assessee as well as the participants.

As per the provisions of the SBAs, AIPL trains the subscribers/ travel agents regarding the use of the CRS . Further, AIPL also provides the subscribers/ travel agents access/connectivity to the mainframe of the appellant located in Germany and the Airline’s inventory base. In India , connectivity is provided by SITA, using the DOT, MTNL or VSNL leased lines. The travel agents systems are connected to AIPL’s computer and the request for information is channelized through AIPL’s computer. AIPL identifies/authoriz es the travel agent as a valid CRS user and processes the request for information into relevant segments.

AIPL does not charge any money from the subscribers/ travel agents either for providing the aforesaid training or access to- the subscribers/ travel agents. The object of providing the aforesaid services free of cost is to encourage the use of CRS amongst the subscribers/ travel agents in India and in turn maximize its own revenues in the form of ‘distribution fee’ receivable from the appellant for each confirmed booking, which in turn also enhanced the revenue of appellant.

The appellant, for the assessment year 1996-97, filed return of income declaring ‘Nil’ income on 08.03.1999 in response to the notice issued under section 142(1) of the Act. The assessing officer, however, vide order dated 23.03.1999, completed that assessment under section 143(3) of the Act at income of Rs. 13,00,83,258 for the assessment year under consideration holding that:

(a) The appellant has a business connection in India and AIPL is the Permanent Establishment (PE) of the appellant in India .

(b) computer hardware/software provided by the appellant to travel agents also constitutes PE of the appellant in India .

After the usual rounds of litigation, the matter is before the ITAT with the following questions:- The first question is whether there is any business connection in India within the meaning of Section 9(1)(i) of the Act. As per the conjoint reading of Section 5(2) and Section 9(1)(i) of the Act, only if the income is arising directly or indirectly through or from any business connection in India, can be taxed in India. The expression ‘business connection’ was earlier not defined in the Act. The Finance Act, 2003 w.e.f. 1st April, 2004 i.e. as applicable to Asstt. Year 2004-05 and onwards has inserted two new Explanations to clause (i) of Section 9(1) clarifying that expression ‘business connection’ will include a person acting on behalf of non resident and who carried on certain activities. However, for the purpose of the present discussion, the amended provision has no relevance. The expression ‘business connection’ has a wide though uncertain meaning. It admits of no precise definition and the solution to the question must depend upon the particular facts of each case. Even the amended definition will not determine as to what constitutes business connection as the same is not an exhaustive definition but is a definition which also includes some of the activities to be termed as business connection.

In this case, it is to be noted that all the subscribers in respect of which income is held taxable are situated in India . The equipment i.e. computer in some cases and the connectivity as well as configuration of the computer in all the cases are provided by the appellant. The booking takes place in India on the basis of the presence of such seamless CRS system. On the basis of booking made by the travel agent in India , the income generates to the appellant. But for the booking no income accrues to the appellant. Time and again it is contended that the whole of the processing work is carried out at host computer situated at Erding in Germany and only the display of information is in India for the proposition that there is no business connection in India .

The tribunal did not agree and observed, The CRS extends to Indian territory also in the form of connectivity in India . But for the request generated from the subscriber’s computer’ situated in India , the booking is not possible which is the source of revenue to the appellant. The assessee is not to receive the payment only for display of information but the income will accrue only when the booking is completed at the desk of the subscriber’s computer. In such a situation, there is a continuous seamless process involved, at least part of which is in India and hence, there is a business connection in India . he computers at the subscriber’s desk are not dumb or are in the nature of kiosk incapable of performing any function. The computers along with the configuration has been supplied either by the appellant or through its agent AIPL and the connectivity being provided by the appellant enables the subscribers to access the CRS and perform the ticketing and booking functions. Thus there is a direct business connection established in India and hence in terms of section 9(1)(i) the income in respect of the booking which takes place from the equipment in India can be deemed to accrue or arise in India and hence taxable in India.

The next question therefore, arises is whether having held that there is business connection in India , how much income is chargeable to tax in India . As per section 9(1)(i) of the Act, income accruing or arising whether directly or indirectly through or from any business connection in India shall be deemed to accrue or arises in India . As per clause (a) of Explanation 1 to section 9(1)(i) in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India. Thus in a given case if all the operations are not carried out in India, the income has to be apportioned between the income accruing in India and income accruing outside India. In the present case, only part of CRS system operates or functions in India . The extent of work in India is only to the extent of generating request and receiving end result of the process in India . The major functions like collecting the database of various airlines and hotels, which have entered into PCA with the appellant takes place outside India . The computer at Erding in Germany processes various data like schedule of flights, timings, pricing, the availability, connection, meal preference, special facility, etc. and that too on the basis of neutral display real time on line takes place outside India . The computers at the desk of travel agent in India are merely connected or configured to the extent that it can perform a booking function but are not capable of processing the data of all the airlines together at one place. Such function requires huge investment and huge capacity, which is not available to the computers installed at the desk of subscriber in India . The major part of the work or to say a lion’s share of such activity, are processed at the host computer in Erding in Germany . The activities in India are only minuscule portion. The appellant’s computer in Germany is also responsible for all other functions like keeping data of the booking made worldwide and also keeping track of all the airlines/hotels worldwide who have entered into PCA. Though no guidelines are available as to how much should be income reasonably attributable to the operations carried out in India , the same has to be determined on the factual situation prevailing in each case. However, broadly to determine such attribution one has to look into the factors like functions performed, assets used and risk undertaken. On the basis of such analysis of functions performed, assets used and risk shared in two different countries, the income can be attributed.

In the present case, the Tribunal found that majority of the functions are performed outside India . Even the majority of the assets i.e. host computer which is having very large capacity which processes information of all the participants is situated outside India . The CRS as a whole is developed and maintained outside India . The risk in this regard entirely rests with the appellant and that is in Spain , outside India . However, it is equally important to note that but for the presence of the assessee in India and the configuration and connectivity being provided in India , the income would not have generated. Thus the initial cause of generation of income is in India also. On the basis of above facts Tribunal reasonably attributed 15% of the revenue accruing to the assessee in respect of bookings made in India as income accruing or arising in India and chargeable under section 5(2) read with section 9(1)(i) of the Act.

Next question decided is if it is found that the income accruing in India is consumed by the payment made to the agents in India , whether any income still is left to be taxed in India . The activities of the appellant in India are entirely routed through the efforts of NMC namely Amadeus India Pvt. Ltd. (AIPL). AIPL is responsible for monitoring the activities of the subscribers enrolled in India . The request originated from the computers at the desk of travel agent is once again routed through the facility of processing such information at AIPL. If AIPL finds that the subscriber accessing the CRS is authorized to do so, the request is further forwarded. AIPL is also responsible for establishing connectivity of the computers of the subscribers and maintaining them. AIPL is also responsible for training of the subscribers in respect of use of CRS . For all these services rendered by AIPL to the appellant, it is being paid remuneration in terms of distribution agreement. Broadly the assessee receives three ‘Euros’ as fees per ‘net booking’ i.e. gross booking minus cancellation. The assessee passed 0.84 dollars to AIPL for each net booking processed through Amadeus system by subscriber. Thus in respect of the activities carried out in India and considering the income accruing in India , remuneration paid to the Indian agents consumes the entire income accruing or arising in India . It is also to be noted that the entire payment made by appellant to AIPL has been allowed as expenses while computing total income of the appellant. In such a situation in view of Circular No.23 of 23rd July 1969 no income can be further charged to tax in India . The Supreme Court has taken judicial note of said Circular in the case of Morgan Stanley & Co. and have held that once associated enterprise which is considered as PE of the non-resident assessee is remunerated at arm’s-length, nothing further would be left to be attributed to the PE of the non-resident. The Tribunal therefore held that in view of the above facts, no income is taxable in India for assessment year 1996-97.

Whether a Permanent Establishment Exists:

The next question is whether the appellant has any permanent establishment in India within the meaning of Article 5 of DTAA between India and Spain .

Paragraph 1 of the Treaty gives a general definition of the term “Permanent establishment” which brings out its essential characteristic of a permanent establishment in the sense of convention i.e. distinct sites, a fixed place of business through which the business of an enterprise is wholly or partly carried on. Thus what is to be seen is whether there is existence of a place of business i.e. a facility such as a premises or in certain instances machinery or equipment. The place of business must be fixed i.e. must be established at a distinct place where a certain degree of permanence can be attached. Carrying on of the business of the enterprise should be through such fixed place of business. This means that the person who is in one way or the other is dependent on the enterprise, conduct the business of the enterprises in which such fixed place is situated. The term place of business covers any premises, facility or installation used for carrying on the business of the enterprise, whether or not they are used exclusively for that purpose. A place of business may also exist where no premises are available or required for carrying on the business of the enterprise and it simply has a certain amount of space at its disposal. It is immaterial whether the premises, facilities or installations are owned or rented or are otherwise at the disposal of the enterprise.

In the present case it is seen that the CRS , which is the source of revenue is partially existent in the machines namely various computers installed at the premises of the subscribers. In some cases, the appellant itself has placed those computers and in all the cases the connectivity in the form of nodes leased from SITA are installed by the appellant through its agent. The computers so connected and configured which can perform the function of reservation and ticketing is a part and parcel of the entire CRS . The computers so installed requires further approval from AIPL who allows the use of such computers for reservation and ticketing. Without the authority of AIPL such computers are not capable of performing the reservation and ticketing part of the CRS system. The computers so installed cannot be shifted from one place to another even within the premises of the subscriber, leave apart the shifting of such computers from one person to another. Thus the appellant exercises computer control over the computes installed at the premises of the subscribers. In view of our discussion in the immediately preceding paragraph, this amounts to a fixed place of business for carrying on the business of the enterprise in India . But for the supply of computers, the configuration of computes and connectivity which are provided by the appellant either directly or through its agent AIPL will amount to operating part if its CRS system through such subscribers in India and accordingly PE in the nature of a fixed place of business in India. Thus the appellant can be said to have established a PE within the meaning of paragraph 1 of Article 5 of Indo-Spain Treaty.

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