The Liaison Office (LO) of non-resident taxpayer would qualify as business connection PE in India if the activities of the LO not confined to purchase of goods in India for the purpose of export

Columbia Sportswear Company Vs. DIT (International Taxation), Bangalore- (Advance Ruling Authority) – In addition to the activities relating to the purchase of goods, the Liaison Office was carrying out various activities such as ensuring the choice of quality material, occasional quality testing, conveying of requisite design, picking out competitive sellers, etc. Further, the Liaison Office facilitated the business of the applicant in Eygpt and Bangladesh. It will be unrealistic that all the activities other than the actual sale of the goods are not integral part of the business of the applicant and have no role in the profit being made by the applicant on the sale of its branded products.

Further, all its profits cannot be said to have accrued outside India since the sales are made outside India. Considering the nature of the activities carried by the Liaison Office in India, and that the activities supported the business in Egypt and Bangladesh, the operations of the applicant in India cannot be said to be confined to the purchase of goods only in India for the purpose of export. Hence the purchase/ sourcing exemption under the Act is not available to the applicant. The Liaison Office constitutes a fixed place PE of the applicant in India under Article 5(1) of the DTAA, since the applicant was carrying at least a part of its business through such office (except the selling activity). With respect to the PE exclusion clause under Article 5(3)(d) of the DTAA, it was held that this exclusion is not applicable since the activities of the Liaison Office are not limited only to purchase of goods or merchandise or for collection of information for the enterprise. Further, as the Liaison Office is engaged in conducting a substantial part of the business of the applicant, its activities cannot be classified as preparatory or auxiliary as understood under the exclusionary clause 3(e) of Article 5 of the DTAA.  Accordingly, the applicant shall be taxable in India but only in respect of the income which can be attributed to the operations carried out by the Liaison Office in India.

Finally, the AAR held that the activities, functions and operations of the LO lead to constitution of a PE of the Applicant in India , and hence its income attributable to the operation carried out in India are taxable in India .

BEFORE THE AUTHORITY FOR ADVANCE RULINGS (INCOME TAX) NEW DELHI

8th Day of August, 2011 A.A.R. No. 862 of 2009

Name & address of the applicant

Name & address of the applicant	Columbia Sportswear Company,14374NW Science Park Drive, Portland, Oregon 97229 United States of America Address in India S.R. Batliboi & Co., UB City, Canberra Block, 12th Floor, No.24 Vittal Mallya Road, Bangalore – 560001
Commissioner concerned	Director of Income-tax (International Taxation), Bangalore
Present for the applicant	Mr. Rajan Vohra, C.AMr. Prasanna T.A., CA [S.R. Batliboi & Co.]Mr. R. Vijayaraghwan, Advocate
Present the Department	Ms Meera Srivastava, JCIT(Intl. Taxn.), Bangalore

RULING

The applicant is a company incorporated under the laws of United States of America. It is a tax resident of USA. It is a multinational wholesaler and retailer of active outdoors apparel with operations in North America, Europe and Asia. It has earned an international reputation for quality, performance, functionality and value. It is one of the largest outerwear manufacturers in the world as well as a leading seller of ski wear in the USA. The applicant is engaged in creating innovative products and undertakes research and development to develop marketable products. This is done outside India.

2. In the year 1995, the applicant established a liaison office in Chennai for undertaking liaison activities in connection with purchase of goods in India. The liaison activities have subsequently been expanded to Bangladesh and Egypt. Besides coordinating purchase of goods from India, the Indian liaison office also assists the applicant in purchase of goods from Egypt and Bangladesh and engages in quality monitoring and production monitoring of goods purchased from these countries. The goods procured from Egypt and Bangladesh do not come to India but are directly sold to the applicant in the United States. In the year 2000, a support office was opened by the Indian liaison office in Bangalore with the approval of the Reserve Bank of India. The applicant will be moving its liaison office in India to Bangalore. The Indian liaison office of the applicant has about 35 employees including 5 administrative staff. The liaison office is principally divided into 5 teams:

(i) Material management

(ii) Merchandising

(iii)  Production Management

(iv) Quality control

(v) Administrative support constituting teams from finance, human resources and information systems.

According to the applicant, the products of the applicant are produced by Independent suppliers worldwide including in India. The Indian liaison office is involved in activities relating to purchase functions for the applicant. The Indian liaison office is engaged in vendor identification, review of costing data, vendor recommendation, quality control and uploading of material prices into the internal product data management system of the applicant. The liaison office also monitors vendors for compliance with its policies, procedures and standards related to quality, delivery, pricing and labour practices. The applicant has summarised the activities of the Indian liaison office in its application under the four following broad heads:-

(a) Inquiry into, consideration of potential suppliers and interaction with existing suppliers for purchase of Columbia product range.

(b) Collecting information and samples of various items from manufacturers with regard to various materials available in India.

(c) Quality check of various products at laboratories to see whether it adheres to the costing and quality parameters as prescribed by the applicant.

(d) Coordinate and act as a channel of communication between the applicant and the Indian vendors.

3. The applicant has gone on to explain what the activities under the four broad heads entail. The applicant has asserted that the Indian liaison office does not have any revenue streams; it does not source products to be sold locally in India. It does not undertake any activity of trading, commercial or industrial in nature in India. The expenditure of the liaison office are entirely met by remittances made by the applicant.

4. On these facts the applicant approached this Authority essentially seeking a ruling on the question whether in the nature of the activities carried on by the liaison office it could be understood as a permanent establishment of the applicant and whether any income can be said to accrue or arise in India to the applicant, liable to be taxed in India.

5. By order dated 2.3.2010 while admitting the application for a ruling this Authority framed the following questions for rendering advance ruling:

5. Whether the India LO creates a permanent establishment (^„PE^‟) for the applicant in India under Article 5(1) of the Agreement for Avoidance of Double Taxation and Prevention of Fiscal Evasion with respect to Taxes on Income and capital gains entered into between the Government of Republic of India and the Government of the United States of America (^„Treaty^‟) read with the PE exclusion available for purchase function in terms of paragraph 3(d) of the Treaty?

6. If the answer to Query 5 is in the affirmative, how would the profits attributable to the PE in India be determined and what would be the broad principles to be borne in mind for attributing income to India LO under the Treaty?

6.  According to the applicant, it is a wholesaler and retailer of active out door apparel engaged in buying and selling of goods to different customers. The products are produced by independent suppliers worldwide including in India. But, the products are sold only outside India. No product is sold in India. A liaison office in India was established for the purpose of undertaking liaison activities in connection with purchase of goods in India. Purchases are invoiced by the Indian suppliers directly to the applicant who in turn sells, the same to wholesale/ retail customers. The sales are made by the applicant to customers wholly outside India. The sale price is received by the applicant from the customers outside India. What the applicant does in India relates to a source of expenditure and not a source of income. The activity of purchase is one that involves expenditure and is in no way related to generation of revenue. No revenue generating activity takes place in India and consequently there can be no question of any right to receive income arising in India. As the source of Revenue lies in sales effected outside India, no income accrues or arises in India under section 5(2) of the Income-tax Act. The activities of the Indian liaison office are only those permitted by the Reserve Bank of India while permitting the establishment of the liaison office. The applicant has not undertaken any business activity and thus no income has been earned or can accrue to the applicant in India. It is further submitted that the applicant also could not be said to have a business connection in India since the liaison office acts only as a communication link between the applicant and the parties in India. The liaison office does not have any right to conclude contracts and certainly no right to conclude contracts habitually with Indian suppliers. That right solely rests with the applicant. Since the activities performed by the liaison office are an integral part of the purchase function, a business connection will not exist as per explanation (2) to section 9(1)(i) of the Income-tax Act. Clauses (b) and (c) of Explanation (2) to section 9(1)(i) of the Act are not applicable given the nature of activities performed by the Indian liaison office. The liaison office does not maintain in India any stock of goods or merchandise from which it regularly delivers goods or merchandise on behalf of the applicant. The liaison office only assists the applicant by undertaking liaison activities in connection with purchase of goods from India and does not secure or solicit any sale order in India. It is also submitted that the Indian liaison office cannot be considered to be a permanent establishment of the applicant in India under Article 5(1) of the Double Taxation Avoidance Agreement. The applicant thus submits that the questions raised are to be ruled in its favour. It is submitted that considering the nature of the activities carried on by the liaison office, the liaison office will be eligible for exclusion available for preparatory or auxiliary activities. The approval by the Reserve Bank of India for setting up the liaison office is relied on in support. Article 5(3) (d) of the DTAA is referred to in support of the exclusion. It is submitted that where a permanent establishment carries on operations relating to purchases and also other operations, only the income relating to the other operations would be attributable to the permanent establishment and no income would be attributable to the permanent establishment for the activity of purchase. Therefore, even if the liaison office is not covered by the exemption, only such part of the income that can be attributed to the permanent establishment in India and not covered by the activity of purchase is taxable in India.

7. In its comments, the Revenue has strongly disputed the claim of the applicant that its operations are confined only to purchase of goods for the purpose of export. It has also argued that purchase of goods itself may give rise to profits. If the argument on behalf of the applicant to the effect that there was no income in the activity of purchase, were to be accepted, then, explanation 1(b) to section 9(1)(i) of the Income-tax Act would become redundant because if no income accrues on purchase, then there is no question of excluding the same by way of a specific explanation. It is submitted that the establishment of the applicant set-up in India and to be shifted to Bangalore was a permanent establishment and that there was no exclusion of the same as claimed by the applicant and clearly, a business connection was established between the applicant and its liaison office. The liaison office had a permanent establishment and had 35 employees. It was carrying on the business of the applicant.Under the circumstance the activities of the Indian liaison office, constitute a business connection with the applicant or it has to be treated as a permanent establishment of the applicant. It is contended that the exclusion in paragraph 3(d) of Article 5 of DTAA was not attracted to the activities of the Indian liaison office as detailed and it is submitted that these details would clearly indicate the existence of a business connection and/ or of a permanent establishment and the questions formulated have to be ruled on on that basis.

8. The applicant is in the business of manufacturing and selling outerwear and sportswear of its own design and made with material chosen by it. On its own showing, the applicant is engaged in creating innovative products after undertaking research and development to develop marketable products. It also performs market research around customer preferences and product pricing. It is also engaged in developing marketing content and implementing strategies. It undertakes inventory management. According to it, its various activities are from outside India and the centralised sourcing group of the applicant is also located outside India. The liaison office of the applicant in India is engaged in vendor identification, review of costing data, vendor recommendation, quality control and up loading of material prices into the internal product data management system of the applicant. The liaison office monitors vendors for compliance with its policies, procedures and standards related to quality, delivery, pricing and labour practices. The liaison office is engaged in quality monitoring and production monitoring for goods purchased from Egypt and Bangladesh. It coordinates, ascertains, monitors and verifies with the vendors to develop the material in line with the quality and aesthetic requirements of the product as provided by the applicant^‟s product design team. It undertakes laboratory testing of fabrics/garments in India in addition to inspecting the quality of the products. It reviews production and quality assurance including the monitoring of the labour practices compliance and periodic performance reviews. It conveys the orders placed by the applicant on to the suppliers and interacts with the suppliers in relation to capacity utilization, quality assurance, on-time delivery performance and so on. The role of the quality control team in the liaison office includes executing pre-sourcing factory evaluations to determine the vendor^‟s ability to manufacture the product to the expectations of the applicant. The quality control team also gives quality training to the newly selected vendors and is responsible for communicating the quality processes of the applicant and expectations to suppliers. The team also ensures that standard methods, tools, machinery and layouts are used. The liaison office also summarises seasonal vendor quality performance for the consideration of the applicant. The liaison office also ensures compliance with the quality process including seeking to ensure that the targeted defect percentage is maintained. It also ensures that the requirements of environmental laws and labour laws of the country are obeyed by the suppliers.

9. The argument on behalf of the applicant is that all these activities of the Liaison Office are concerned with the purchase of the goods in this country and since no final product purchased by the applicant from India is sold in India, it could not be said that the applicant derives any income in India. In other words, no income either accrues or can be deemed to accrue to the applicant from the mere activity of purchase and the activities related to ensure purchase of quality goods. What generates income is the sale and the sale is wholly outside India. Even the goods manufactured in Egypt and Bangladesh with which the liaison office is concerned, are not sold in India. In fact they never come to India. The position, therefore, is that no income accrues to the applicant in terms of section 5(2) of the Income-tax Act. Even if section 9 is taken into consideration, the exemption contained therein relating to activities of purchase would take the activities of the liaison office outside the purview of taxation in India. In the context of section 9(1) of the Act, it could not be said that the applicant had a business connection in India. In terms of DTAA also, the applicant could not be said to have a permanent establishment in India. Even if it were to be deemed that it had a permanent establishment, the activities of purchase taken up by the permanent establishment would come under the category of exemption under the DTAA and would still be not taxed in India.

10. The main thrust of the argument of the applicant is that so long as no sale of any product of the applicant takes place in India, no income can be said to be generated in India or deemed to accrue in India by the activities of the applicant or its liaison office in India. The act of purchase only results in expenditure and does not generate any income and all that the applicant incurs in India is expenditure. The act of sale has to be divorced from the act of purchase for the purpose of testing whether any income has accrued to the applicant in India. The decision of the Supreme Court in EDSASSU and Company Limited V. CIT [(26ITR27)(SC)] is relied on to contend that the assessee must acquire a right to receive income before it could be said that the income has accrued to him though it may be received later. Since by way of the activity of purchase no income accrues or can be deemed to accrue, there is no tax ability in India under the Income-tax Act. The liaison office was merely carrying on the functions of the applicant confined to purchase and hence no part of the income of the applicant could be attributed to the liaison office in India.

11. Reliance is placed on the Ruling of this Authority in IKEA Trading (Hong Kong) Ltd., – AAR No. 771 of 2008. In that case, on a finding that the applicant therein, a foreign company having a liaison office in India was engaged only in purchase operations in India for export, this Authority held that no income was generated by such an activity in India to be taxed in India either from the standpoint of section 5(2) or section 9(1)(i) read with Explanation 1(b) of the Income-tax Act. It is true that the activities undertaken by the applicant therein included some of the activities undertaken by the applicant before us. But, what ultimately emerges from that decision is that it is a question of fact to be found as to whether the activities are confined to the purchase of goods in India. If they are not so confined, obviously the question will have to be considered with reference to the facts available in the given case. We, therefore, proceed to analyse the activities of the applicant before us undertaken by the liaison office of the applicant in India.

12. The question, therefore, is whether the activities undertaken by the liaison office on behalf of the applicant are activities limited to or confined to the purchase of goods in India by the applicant. We have referred to in detail to the various activities undertaken by the liaison office on behalf of the applicant. We have also noticed that it has about 35 employees divided into 5 teams dealing with material management, merchandising, production management, quality control and administration support constituting teams from finance, human resources and information systems. In addition to assisting the applicant in the actual purchase of the goods direct from the manufacturers in India, various activities are carried on by the liaison office which relate to ensuring the choosing of quality material, occasionally testing them for quality, conveying of requisite design, picking out of competitive sellers, the ensuring of quality, the ensuring of adherence to the policy of the applicant in the matter of procurement and employment, in the matter of compliance with environmental and other local regulations by the manufacturers – suppliers and in ensuring that the payments made by the applicant reach the suppliers. The applicant is obliviously in the business of designing, manufacturing and selling branded products, brands over which it has exclusive rights. In the matter of manufacturing of products as per design, quality and in implementing policy, the liaison office is actually doing the work of the applicant. The activities of the liaison office are not confined to India. It also facilitates the doing of business by the applicant with entities in Egypt and Bangladesh. A person in the business of designing manufacturing and selling cannot be taken to earn a profit only by a sale of goods. The goods as designed and styled by the applicant cannot be sold without it being got manufactured and procured in the manner designed and contemplated by the applicant. It will be unrealistic to take the view that all the activities other than the actual sale of the goods are not integral part of the business of the applicant and have no role in the profit being made by the applicant by the sale of its branded products. It is difficult to accept the argument that what is done in India by the liaison office of the applicant is only to expend money and all its income accrues outside India by the sale of the products. The position we thus adopt is clearly supported by the decision of the Supreme Court in Anglo-French Textile Company Ltd. v Commissioner of Income-tax, Madras. No. 2 (23 ITR 101 SC) affirming the decision of the Madras High Court in 18 ITR 888. The Supreme Court answered the question, “can any profit arise out of mere purchase of raw-material,” thus “In our judgement, the contention of the Learned Counsel for the applicant, – and on which the whole argument is founded – that it is the act of sale alone from which the profits accrue or arise can no longer be sustained and has to be repelled in view of the decision of this Court in Commissioner of Income-tax, Bombay v. Ahmedbhai Umarbhai & Co. [1950] S.C.R. 335; 18 ITR 472 ^“It was held by this court that the profits of that part of the business, viz.,, the manufacture of the oil in the Mill in Raichur, accrued or arose in Raichur even though the manufactured oil was sold in Bombay and the price was received there, and, accordingly that part of the profits derived from sales in Bombay which was attributable to the manufacture of the oil in Raichur was exempt from excess profits tax under the proviso to Section 5 of the Act.” Their Lordships quoted the following observations of Lord Davy in Inre: Commissioners of Taxation v Krik (1900 AC 588. “ It appears to their Lordships that there are four processes in the earning or production of this income:

(1) The extraction of the ore from oil soil;

(2) the conversion of the crude ore into a merchandisable product, which is a manufacturing process;

(3) the sale of the merchandisable product;

(4) The receipt of the moneys arising from the sale. .

All these processes are necessary stages which terminate in money, and the income is the money resulting less the expenses attendant on all the stages. The first process seems to their Lordships clearly within sub- section 3, and the second or manufacturing process, if not within the meaning of ^„trade^‟ in sub­ section 1 is certainly included in the words ^„any other source whatever^‟ in sub section 4.

So far as relates to these two processes, therefore, their Lordships think that the income was earned and arising and accruing in New South-Wales”

13. There is, thus, clear authority for the position that all activities other than the actual sale cannot be divorced from the business of manufacture and sale especially in a case like the present, where the sale is of a branded product, designed and got made by the applicant under supervision, under a brand owned by the applicant. We are, therefore, not in a position to accept the argument on behalf of the applicant that all the activities carried on in India are confined to the purchase of goods in India.

14. It is argued that the decision of the Supreme Court in Anglo-French Textile Company Ltd ( 23 ITR 101) cannot now govern the situation in view of the addition of Explanation I(b) to Section 9(1)(i) of the Income-tax Act, taking out activities of purchase while deeming the accrual of income. The principle laid down by the decision is that in a business of purchase and sale, the activity of purchase cannot be totally divorced from the activity of sale leading to income. The said principle is not affected by the Explanation. The explanation only seeks to exclude income from activities limited to purchase of goods in India for the purpose of export. The principle that a purchase of raw material, getting goods manufactured and selling the product form an integral activity remains unshaken.

15. The decision of the High Court of Delhi in CIT V. N.K. Jain (206 ITR 692)   is relied upon to argue that the effect of the Explanation as understood therein supports the position adopted by the applicant. The Ruling given by the Authority in Mushtaq Ahmed  ^{(307 ITR 401)} is also relied on.

16. In N.K. Jain, the non-resident had made an arrangement with a commission agent in India to purchase readymade garments on his behalf and to export them to him. The commission agent was also purchasing dress materials on behalf of the non-resident and was getting it stitched into garments through tailoring establishments in India and exporting them to the assessee. The Tribunal had rendered a finding of fact which the High Court accepted that the assessee was carrying on the business of readymade garments and that his arrangement was only to purchase the readymade garments through an agent and that the assessee was entitled to the benefit of clause (b) of Explanation to Section 9(1)(i) of the Act. This conclusion was accepted by the High Court. There was no argument based on the decision of the Supreme Court before the High Court. There was no reference to that decision and there was no consideration of an argument that a purchase could not be totally divorced from a sale in such cases. There is no ratio emerging that by virtue of the addition of the Explanation, the principle set down by the Supreme Court in Anglo-French Textile Company Ltd., is no more relevant or binding.

17. In Mustaq Ahmed in Re, this Authority, after noting the decision of the Supreme Court above referred to and the history of the Explanation to Section 9(1)(i) of the Act, stated:

“That means, there can be no attribution of notional income to the operations of non-residents, in so far as they are confined to the purchase of goods in India for the purpose of export           The deemed accrual envisaged by Section 9(1)(i) will become ineffective to the limited extent of purchase operations undertaken by the non-resident in India for the purpose of export. One cannot get out of the net of taxation altogether by invoking Explanation I(b)”.

21. In M/s. Armco Overseas Company, BV (AAR No. 825 of 2009) relied on by the Revenue, this authority stated that “(But) the language of clause (b) of Explanation I cannot be stretched too far so as to extend the benefit to those who do not really act for and on behalf of the non-residents in the purchase transactions, but only provide certain support services to the nonresidents in connection with the purchases made by them.” This decision only clarifies that activities confined to support services do not become activity of purchase for export and unless the activity of purchase is there, Explanation I(b) cannot be attracted.

22. What Section 9(1)(i) Explanation I(b) deems in the case of a non‑resident, is that no income arises in India to him through or from operations which are confined to the purchase of goods in India for the purpose of export. In this case, the activities of the Liaison Office of the applicant in India is not confined to the purchase of goods in India for the purpose of export. The applicant, in fact, transacts in India its business of designing, quality controlling, getting manufactured consistent with its policy and the laws, the branded products it sells elsewhere. All these activities cannot be understood as activities confined to purchase of goods in India for export from India. ^„Confined^‟ means, ^„limited, restricted^‟. ^„Purchase^‟ means ^„get by payment, buy^‟. We find it difficult to accept that all the activities above enumerated are activities confined to purchase. We are also unable to accept the position that these activities are limited to the purchase of goods.

23. Income resulting from manufacture, purchase and sale cannot be compartmentalised and confined to one arising out of a sale only. The whole process of procurement and sale has to be completed to generate income. Hence, getting manufactured and purchasing form integral parts of the process of generating income. The liaison office acts as the arm of the applicant regarding that part of the activity. A function related to purchase is not a function confined to purchase or mere purchase.

24. There is another aspect. The activities of the Liaison Office of the applicant in India, is not confined to India. It also takes up the identical activities as in India, in Egypt and Bangladesh. The applicant has only pleaded that the goods procured from Egypt and Bangladesh are not imported into India and are sold only to the applicant in the US. Whether product of the applicant are sold in Egypt and Bangladesh is not clear. Whatever it be, since the activities of the applicant in India takes in, its business in Egypt and Bangladesh, it cannot be stated that the operations of the applicant in India are confined to the purchase of goods in India for the purpose of export.

25. We are therefore inclined to the view that the applicant cannot take shelter under Explanation I (b) to Section 9(1)(i) of the Income-tax Act.

26. Now, we have to consider the relevant articles of the Convention between the Government of the United States of America and the Government of the Republic of India (DTAA). It is the submission of the applicant that under the DTAA, the business income of the applicant is taxable only in the United States and not in India. Under Article 7.1 of the Treaty, the profits of the applicant is taxable only in USA unless it is found that it carries on business in India through a permanent establishment in India and subject to the restrictions imposed therein. A permanent establishment is defined in Article 5 of DTAA as a fixed place of business through which the business of an enterprise is wholly or partly carried on. It is submitted that the Liaison Office in question is not one of the establishments enumerated in sub-article 2 of Article 5 and hence it is not a permanent establishment. It is also contended that in any event, under Article 5(3) a permanent establishment shall be deemed not to include a permanent place of business as the liaison office of the applicant. Clauses (d) and (e) of Article 5(3) are relied on in support.

27. It is the stand of the applicant that its liaison office in India cannot be understood to be a permanent establishment within the meaning of article 5 of the DTAA. According to article 5, the term ^„permanent establishment^‟ means a fixed place of business through which the business of an enterprise is wholly or partly carried on. Then, the article proceeds to enumerate certain establishments as included in the term permanent establishment in sub-article 2. Sub-article 3 excludes certain establishments from within the term ^„permanent establishment^‟. Clause (d) therein excludes a fixed place of business solely for the purpose of purchasing goods or merchandise or of collecting information for the enterprise. Clause (e) excludes a fixed place of business solely for the purpose of advertising, for the supply of information, for scientific research or for other activities which have a preparatory or auxiliary character, for the enterprise.   It is argued that the liaison office is  not a permanent establishment going by the establishments mentioned in clauses (a) to (i) of sub-article 2 and hence the liaison office could not be treated as a permanent establishment. On behalf of the Revenue it is pointed out that sub-article 2 includes certain establishments which may or may not come within the definition contained in sub-article 1 of article 5 and the question is whether the liaison office in question does or does not satisfy the requirements of article 5.1. According to us, article 5.1 defines a permanent establishment as meaning a fixed place of business through which the business of an enterprise is wholly or partly carried on. If an establishment satisfies this definition, there is no need to go into the question whether the establishment cannot be brought within the inclusive part of the definition in sub-article 2. Once the definition in article 5.1 is satisfied, the only inquiry to be undertaken is to see whether it is one ofthose establishments excluded by sub-article 3. In construing the exclusion in sub-article 3, it appears to us that the exclusion has to be tested with reference to one or more of the activities referred to therein. We shall therefore consider first whether the liaison office would qualify as a permanent establishment in terms of article 5.1 of the DTAA.

28. There is no dispute that the liaison office has a fixed place of business. It was originally in Chennai and now it is being established in Bangalore. It has 35 employees and it deals with different aspects of the business of the applicant. The business of the applicant is designing, getting manufactured, purchasing and selling of garments based on its research relating to consumer preferences and market conditions. Other than the actual business of selling, the rest of the activities of the applicant are conducted by the liaison office in India at best in part. In other words, a part of the business of the applicant is carried on in India by the liaison office. Not only in India, but also in Egypt and Bangladesh. There cannot be much doubt in such circumstances that the liaison office would be a permanent establishment of the applicant within the meaning of article 5.1. of the DTAA. We may notice here that in Annexure IV of its application, the applicant has admitted that it has a fixed place of business in India through which it carries on its business and has invoked the exclusionary provisions in Article 5(3) of the Treaty to get out of the obligations arising therefrom.

29. Then the question is whether the liaison office could be taken out of the definition with reference to sub-article 3. Clauses (d) and (e) of sub-article 3 are relied on in this context. Clause (d) excludes a fixed place of business solely for the purpose of purchasing goods or merchandise or of collecting information for the enterprise. On its own showing, the liaison office is not used solely for the purpose of purchasing goods or merchandise or for collecting information for the enterprise. The liaison office identifies a competent manufacturer, negotiates a competitive price, helps in choosing the material to be used, ensures compliance with the quality of the material, acts as go between, between the applicant and the seller or the manufacturer-seller of the goods and even gets the material tested to ensure quality in addition to ensuring compliance with its policies and the relevant laws of India, by the suppliers. What sub-article 3(d) excludes is a place of business solely for the purpose of purchasing goods or of collecting information for the enterprise. The activities carried on by the liaison office cannot said to be an activity solely for the purpose of purchasing the goods or for collecting information for the enterprise. It is practically an involvement in all the activities connected with the business of the applicant except the actual sale of the products outside the country. On these facts, it is not possible to find that such an establishment would be excluded by clause (d) of sub-article 3 of article 5.

30. It is argued on behalf of the Revenue that Article 5.3 (d) has no application at all in this case, since the applicant has admitted that its liaison office does not purchase or has no right to purchase any goods and the purchase is only made by the applicant. Whether on that basis, we can rule out clause (d) need not be pronounced upon. The liaison office, admittedly is collecting information for the enterprise, though it may not be established solely for that purpose.

31. Clause (e) speaks of a fixed place of business solely for the purpose of advertising, for the supply of information, for scientific research or for other activities which have preparatory or auxiliary character for the enterprise. Auxiliary means providing extra help and support. Preparatory means done in order to prepare for something. Here again, the liaison office is not solely involved in advertising, for the supply of information for scientific research or other activities which have preparatory or auxiliary character. The liaison office is involved in conducting a substantial part of the business of the applicant which as indicated earlier, takes in a number of activities culminating in designing of apparel or goods with material to the taste of the customers and after adequate research at a competitive price, supervision of the manufacturing process and then sale by the applicant in a brand name. The liaison office is also the conduit for conveying the requirements and the decisions of the applicant to the various manufacturers identified by it and approved by the applicant and for processing the goods and paying for them. We have already indicated that a part of the business of the applicant in Egypt and Bangladesh is also carried on by or through the liaison office. On the facts of this case and in the light of the activities undertaken by the liaison office, we are not able to accept the argument that clauses (d) and (e) of article 5(3) read separately or together, would take the liaison office out of the definition of permanent establishment contained in article 5(1) of DTAA. On the facts of this case, we are satisfied that the liaison office would be a permanent establishment of the applicant in India.

32. It is true that in terms of the permission taken from the Reserve Bank of India, the liaison office can undertake purely liaison activities, viz. to inspect the quality, to ensure shipments and to act as a communication channel between Head office and parties in India and will not take up any other activity of a trading, commercial or industrial nature. The liaison office, on the applicant^‟s own showing is also engaged in identifying suppliers, recommending them for acceptance, getting competitive quotations from suppliers, recommending their acceptance and so on. In addition, it is also doing the work of the applicant in Egypt and Bangladesh. Whether all these activities will also come within the permission granted by the Reserve Bank of India, need not be considered here. Suffice it is to say that one has to test the effect of the activities admittedly undertaken by the liaison office in the context of Article 5 of DTAA to adjudge whether it would be a permanent establishment within that Article. On the basis of our reasoning as above, we are satisfied that the liaison office in question would qualify to be a permanent establishment in terms of Article 5 of the DTAA.

33. Once we find that in terms of Article 5 of DTAA, the applicant has a permanent establishment in India, the applicant is liable to be taxed in India in terms of Article 7(1) of the DTAA on so much of the profits as is attributable to the permanent establishment or to other business activities carried on in India of the same or similar kind as those effected through that permanent establishment.

34. In the light of the discussion above, the ruling on the questions are:

(1)  A portion of the income of the business of designing, manufacturing and sale of the products imported by the applicant from India accrues to the applicant in India.

(2) The applicant has a business connection in India being its liaison office located in India.

(3) The activities of the Liaison Office in India are not confined to the purchase of goods in India for the purpose of export.