R U L I N G
(By Honourable Chairman)
1. The applicant is a Company incorporated under the laws of Germany and is engaged in the business of architectural designs and drawings. In response to a tender invited by the Govt. of Tamil Nadu for preparation of designs and drawings for the construction of a huge complex for Tamil Nadu Legislative Assembly, the applicant submitted the tender and it was selected as “consultant for supply of the architectural designs and drawings”. An Agreement was entered into on 15 th Feb, 2008 for the supply of designs and drawings for block A. The applicant was additionally 1.entrusted with the work of preparation of architectural designs and drawings for block B also in October 2008.
2. The scope of work as contained in Section-1 of the Agreement consists of Architecture (Part I) and Allied fields. As many as 24 items are there under the head `Architecture’ . As regards the allied fields there are four items which will be referred to later on. In order to execute the work, the applicant entered into an agreement with Arch Vista Engineering Projects Pvt. Ltd., Pune and the agreement in this behalf was entered into on 5th May, 2008. That Agreement is known as `Sub-Consultancy Agreement’. In the course of arguments, the applicant’s counsel while referring to the scope of work under the two Agreements has submitted that most of the work undertaken under the main Agreement was given on sub-contract to Arch Vista, Pune. The learned counsel has pointed out that the main work done by the applicant was furnishing conceptual drawings and designs. We will in due course refer to the details of the works said to have been undertaken exclusively by the applicant. It is the case of the applicant that a team of architects and designers stationed in Germany have produced the designs and drawings and delivered the same to the Govt. electronically by placing the same on the internet in Germany. It is the contention of the applicant that the designs and drawings it has supplied to the Govt. of Tamil Nadu are in the nature of a capital asset or plant. It is pointed out that the consideration has been received by the applicant outside Germany as the amount in Indian rupees has been credited to the overseas bank account of the applicant and the same was received by the applicant in Euros. The crux of the applicant’s case is that the consideration received by the applicant under the contract is not in the nature of fees for technical services, if the scope of work excluding the sub-contracted works is taken into account. At best, the consideration paid under the Agreement is liable to be taxed as business profits in India. However, as the applicant does not have a permanent establishment in India, the receipts cannot be subjected to Indian income-tax by virtue of Article 7.1 of the DTAA 1 between India and Federal Republic of Germany. The applicant further submits that its personnel in India were there only to gather information and to explain drawings and plans prepared by the applicant’s personnel in Germany. It had to do certain minimal supervisory and coordination activities in regard to the works undertaken by M/s Arch Vista. It is stated that the personnel of the applicant visited India for short duration for a total period of 89 days during the financial year April 2008 to March,2009. The purpose for which the presence of the applicant’s personnel in India was required are set out in the application. On behalf of the applicant, it is submitted by the learned counsel that the sub-Contract Agreement had the approval of Tamil Nadu Govt. and as stated in the application, the payments were made by the Govt. of Tamil Nadu both to the applicant and the sub-contractor (Arch Vista) as per the agreed percentages specified in the sub-Contract Agreement.
3. The following questions (as recast) have been formulated by the applicant for the purpose of seeking advance ruling:
1. Whether on the facts and circumstances of the case the amounts received by the applicant outside India from the Public Works Department, Government of Tamil Nadu, are in consideration for the sale of designs and drawing, being a capital asset transferred outside India, and whether such receipts would be liable to tax in India under the provisions of the Income-tax Act, 1961?
2. Whether on the facts and circumstances of the case the amounts received by the applicant from the Public Works Department, Government of Tamil Nadu is taxable as “Fees for Technical Services” under section (1)(vii) of the Income Tax Act, 1961 read with Article 12- fees for technical services under the Double Tax Avoidance Agreement entered into between India and Germany?
3. Whether on the facts and circumstances of the case there is a permanent establishment of the applicant in India under the provisions of the Double Tax Avoidance Agreement between India and Germany?
4. Whether on the facts and circumstances if the answer to question No. 3 is in the affirmative, whether the amounts received by the applicant are attributable to such permanent establishment?
5. If the answer to question no.3 is in the affirmative, whether the income attributable to the PE would not be restricted to the amounts received by the applicant in India and does not include the amounts received by the sub-contractor from the Public Works Department, Government of Tamil Nadu?
6. If the answer to Question No. 3 is in the affirmative and the answer to Question No. 5 is negative, whether the consultancy charges paid to the sub- contractor on which the Public Works Department, Government of Tamil Nadu deducts tax at source, is a permissible deduction from the income of the applicant?
4. As mentioned earlier, the contention advanced on behalf of the applicant is that in substance what has been done by the applicant was that a dossier or compilation of documents containing the designs, drawings and blue-prints was provided at the initial stage and it is a case of outright sale of drawings and designs that constitute a capital asset. It is submitted that these designs and drawings were prepared in Germany and the documents were placed on the applicant’s server and thus the electronic delivery took place outside India. The terms of the Agreement required the soft copy and hard copy of the drawings etc. to be provided to the Government of Tamil Nadu and this is what has been sold by the applicant. Though in the Agreement with the Government, a number of items including various technical services are referred to, the applicant did not carry out most of those activities/ works as the Indian company was nominated as sub-contractor to do the substantial portion of contracted works. It is pointed out that the applicant was selected on the evaluation of the design concept presented by it and the applicant’s role was mostly confined to the conceptual stage of designing. The applicant has not set up any establishment in India inasmuch as most of the items connected with work including survey and designing aspects during construction and execution of the project were taken care of by the sub-contractor. The applicant shared the contract price with the sub-contractor according to the agreed ratio and the Government of Tamil Nadu has been directly making payments to the applicant and the sub-contractor accordingly. It is, therefore, submitted that if the work entrusted to the sub-contractor at various stages is excluded from consideration, the applicant cannot be said to have rendered technical or consultancy services to the Government of Tamil Nadu; hence, the income cannot be considered to be fee for technical services.
5. The DIT (International Taxation) who has furnished comments submits that the consideration received by the applicant in relation to the contract is essentially in the nature of fee for technical services. It is a contract for consultancy services and the contract cannot be split up and the amounts payable cannot be considered separately. Irrespective of the sub-contract, it is submitted that the project must be deemed to have been executed in India and the entire amount payable under the contract entered into with the Government of Tamil Nadu is liable to be taxed in India as `fees for technical services’. Moreover, it is pointed out that the applicant company had itself categorised the receipts as FTS and sought an order to withhold tax at the rate of 10 per cent pursuant to which the assessing officer passed the order on 31.10.2008.
6. In view of the respective contentions, the question to be resolved is whether the amount received or receivable by the applicant under the contract is in the nature of FTS or is it a transaction of sale of documents containing architectural designs and drawings?
7. The expression `fees for technical services’ (`FTS’ for short) is categorised as deemed income under section 9(1)(vii) of the Act. Explanation 2 to section 9(1)(vii) defines the expression `fees for technical services’ as any consideration (including any lump sum consideration) for the rendering of 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. In the DTAA between India-Germany, the term `fees for technical services’ is defined in Article 12.4 to mean “payments of any amount in consideration for the services of managerial, technical or consultancy nature including the provision of services by technical or other personnel but does not include payments for services mentioned in Article 15”. Article 15 is concerned with dependent personal services and salaries/ wages derived from such services and that is not relevant here.
8. For the purpose of deciding the controversy, we have to get into the details relating to the features of the contract, the scope of 7.work and the responsibilities assumed by the applicant under the terms of the contract. What is the essence of the contract is broadly the question that confronts us.
8.1. In the preamble to the Contract Agreement, it is recited that “this contract for the consultancy is for preparation of conceptual drawings, comprehensive detailed drawings, designs, specifications, preparation of detailed project report for the construction of a building complex for Tamil Nadu Legislative Assembly in Chennai….”. The expression `consultancy services’ is used at more than one place in the Agreement. Under the heading `scope of work’, Part. I – `Architectural’, 24 items are mentioned. The list starts with “preparation of design brief after taking client’s additional instructions” . The second item is designs and site development, the third item is preparation of concept drawings to the satisfaction of the client. The next item is providing “3D Walk- through presentation and getting approval of the client”. Site evaluation, analysis and impact of proposed development on its immediate environs. Then follows the items relating to furnishing of designs on various aspects such as structural, sanitary, drainage, water supply and sewerage system, electrical, electronic and internet system, heating, ventilation and air-conditioning, elevator and escalator, fire-detection and security system, disaster management system, integrated building management system, System design for special security and interior designs and architecture. The other items are: Preparation of detailed project report, detailed engineering drawings, time schedule and resources plan, detailed cost estimates along with state-of-the- art specifications, providing assistance in tender process and awarding of works, obtaining statutory approvals, periodic inspection and evaluation of project works and reporting to the client and providing project completion report with final “as built” drawings. The 2 nd part which is titled “Allied Fields” has four items i.e., landscape architecture, architectural conservation, retrofitting of buildings and graphic design.
8.2. The schedule of services to be rendered by the consultant forms part of the Agreement and they run into 17 paragraphs (vide 1.2 to 1.18). Among other things, the list of services include detailed topographical surveys of the site, traffic survey, conducting soil test and hydro- geological survey, site evaluation and analysis report which are all required to prepare the conceptual and detailed
drawings and designs. The learned counsel for the applicant has stated that the applicant has carried out four items of work mentioned in paras 1.7, 1.8, 1.10 and 1.18 and the remaining works/ services were all carried out by the sub-contractor. Para 1.7 refers to preparation of conceptual drawings and study model and estimate of cost. Para 1.8 speaks of preparation of drawings necessary for submission to statutory bodies for obtaining approval/licenses. Para 1.10 refers to preparation of complete working drawings and details sufficient for proper execution of works during construction. All the drawings and reports are to be furnished in both soft and hard copies. The last requirement laid down in para 1.18 is that on completion of all works, the consultant has “to advise cost variation with justification, prepare and submit twelve sets “As executed” drawings in hard copy with one set of soft copy of building and other services and assist for obtaining approval of statutory authorities”. Apart from the preliminary works/ services mentioned at the beginning of this para and those said to have been carried out by the applicant exclusively (vide paras 1.7, 1.8, 1.10 and 1.18), the other important items of work mentioned in the Schedule are preparation of detailed engineering design specifications and estimates at market rates wherever necessary and such services will include structural, architectural designs of the building taking into consideration the earthquake and other dig ester equipment, designs for all internal and other services including air-conditioning. Preparation of pre-qualification criteria for short-listing the contractors, deploying qualified technical personnel and supervisory at site, preparation of master PERT 10.chart, preparation of milestone chart for progress monitoring, reporting format for the client quality assurance plan etc.
8.3. The stages of payment starting from conceptual design stage up to the submission of completion report and drawings are specified in para 3.3 of the Agreement. In Appendix-B of the main Agreement, it is stipulated that the chief consultant shall attend periodical review meetings conducted by the applicant with the required progress details.
9. We may now notice some of the provisions in the Sub- Consultancy Agreement.
The preamble to the Agreement recites that the applicant (consultant) has entered into a Consultancy Agreement to provide consultancy services in connection with the Legislative Assembly building and then it is stated that the applicant has requested the sub-consultant to provide “certain of the said consultancy services”. The consultant agreed to pay the sub-consultant for such services the amounts as specified in the Sub-Consultancy Agreement. Schedule-II sets out the “scope and programme of the sub-consultancy services”. The services to be performed by the sub-consultant during the design stages are enumerated in the schedule. The first one is `Schematic design’ which includes architectural, structural, mechanical, engineering and landscaping. The next heading is `Design’ relating to architectural, structural engineering, mechanical engineering, landscaping and interior design. The next item is `Construction documents’ relating to the said items i.e. architectural etc. The other three items are Tender,
Site Service and Completion report.
9.1. On completion of all works, the sub-consultant has to advise on cost variation with justification, prepare and submit twelve sets of ‘As executed’ drawings in hard copy with one set of soft copy and assist for obtaining approval of statutory authorities. This is similar to para 1.18 of the main Agreement. It was stated at the time of arguments that the same function was in fact performed by the applicant, probably based on the material furnished by the sub-consultant. The sub-consultant is required to employ qualified personnel in compliance with the provisions of the main Agreement.
9.2. Para 4.3 deals with payment and it reads as under: “4.3. Payment: The sub-consultant shall be paid in accordance with an agreed draw down schedule as in Schedule- 3 between the two parties, and will be paid according to the task completed. The fees will be calculated with accordance to the building cost approved by the client. As per Main Agreement with the Client, the fees are calculated at 5.0% of the construction cost for exterior design and 7.5% for interior design. The total fees will be split between the two parties. The Consultant will receive 55% of the payments and the sub-consultant will receive 45% of the payments. The payments for the sub-consultant will be done by the Client against the consultant’s certification of the sub-consultant’ s invoice.”
12.Thus, although the client (Govt.) makes payment directly to the sub-contractor, that is only on the basis of certification by the applicant and at the instance of the applicant. The stages of payment of fees and the apportionment of total fees receivable under the contract are set out in Schedule-3. Under the head `Split Design services – Gmp Scope only architectural design”, seven stages are mentioned. They are:
(1) concept design – 100% payment to applicant;
(2) preliminary design – 80%;
(3) statutory approvals – 80%;
(4) tender documents – 70%;
(5) appointment of contractors- 60%;
(6) Construction drawings – 50%;
(7) completion – 30%.
Thus, 45% is allocated to the share of Arch Vista and the remaining 55% to the applicant. It shows that the applicant is entirely connected with the concept design and as regards the other items relating to architectural design, both the applicant and the sub-contractor have a part to play. On a perusal of the various recitals and features of the two agreements coupled with the Letter of Award, we are unable to agree with the counsel for the applicant that rendering of technical services by the applicant is not the essence of the contract, but, what is involved here is nothing but outright sale of documents viz. designs and drawings pertaining to the conceptual stage. The contention of the applicant is that if the scope of sub-contracted work to Arch Vista is excluded from consideration, as it ought to be no services of technical or consultancy nature can be said to have been performed by the applicant in India to any substantial extent. We do not think so. The mere fact that the sub-contractor is required to perform most of the services connected with designing the Complex and receives nearly half the contract value does not mean that the applicant has not rendered any consultancy services apart from presenting a conceptual architectural deign. The whole process starts with preparation of conceptual designs, drawings and study models to the requirements of the client and providing 3D walk-through presentation for the purpose and getting the approval of the client. The applicant also prepares complete working drawings and details sufficient for proper execution of works during construction. These are all critical services of technical and consultancy nature. It is within the framework of the conceptual designs and working drawings prepared by the applicant in consultation with the client that the sub-consultant undertakes further designing as detailed above. The role of the consultant does not stop at that and the consultant will not exit from the scene with the presentation of the conceptual design. The applicant will remain to be the consultant throughout the period of the work by offering such services as may be required from time to time. It is the applicant who is accountable for the work to the Govt. of Tamil Nadu and by necessary implication it is the responsibility of the applicant to ensure that the sub-consultant renders the services of technical nature to its satisfaction and the satisfaction of the client. As per para 1.18 of Section I, the consultant, on completion of all works has to advise the client on cost variation with justification, prepare and submit twelve sets “as executed drawings in hard and soft copies” and assist the client in obtaining the final approval of statutory authorities. The fact that the applicant is associated with the various stages of the work entrusted to it under the original Agreement is reinforced by the fact that for architectural design, the applicant shares the fee with the sub-contractor starting from the concept design stage and ending with `completion’ . There is nothing in the Agreement nor any material has been placed before us that the client does not consult or seek assistance of the applicant as and when required, notwithstanding the presence of the sub-contractor. By virtue of the sub-contract, no doubt, the applicant’s personnel need not stay in India throughout the duration of the contract, but its periodical monitoring and offering technical advice as and when required and guiding the sub-consultant by deploying its expertise cannot be brushed aside. In our view, the description given in the Letter of Award i.e. “rendering comprehensive architectural services” and the specification in the main Agreement that the contract is for the “consultancy for preparation of conceptual drawings, comprehensive detailed 15.drawings” etc. reflects the correct factual position. The services and responsibilities undertaken by the applicant do not run counter to the above description. The supplies of designs and drawings by means of electronic dispatch or otherwise is only an integral part of the consultancy services undertaken and executed by the applicant. The intervention of the sub-contractor, as stated already, does not really alter this fact situation and the technical and consultancy services expected to be rendered by the applicant under the terms of the Agreement do not pale into insignificance merely for the reason that the drawings and designs were prepared by the applicant’s architects and engineers stationed in Germany. Taking a holistic picture, the inescapable conclusion is that the consideration received by the applicant under the contract with the Tamil Nadu Govt. can be legitimately treated as fees for technical services and it is not appropriate to describe the transaction as a pure and single sale of drawings and designs prepared in Germany. The applicant’s contention is therefore liable to be rejected for more than one reason.
10.1. It is pointed out that the Revenue in its comments has proceeded on a wrong assumption that the services relating to various surveys and soil testing in the initial stages was done by the applicant itself whereas its sub-contractor who has undertaken such work. However, the fact that such services at the preliminary stage were undertaken by the sub-contractor which does not detract from the position that the applicant has essentially rendered technical and consultancy services.
11. The learned counsel for the applicant has placed reliance on three decisions. The first one is the case of Scientific Engineering House Pvt. Ltd. Vs. CIT 2 decided by Supreme Court of India. In that case the appellant company which manufactured scientific instruments entered into collaboration agreements for the manufacture of two different products. The foreign collaborator agreed to supply the appellant all the technical know-how required for the manufacture of those instruments. For this purpose, the foreign collaborators agreed to render `documentation service’ by supplying to the appellant updated sets of five types of documents, viz. manufacturing drawings, full processing documents, assembling drawings, etc. The question was whether the drawings, designs, processing data and other literature comprised in the documentation service constituted a `book’ and fell within the definition of the `plant’ in Section 34(3) of the Income-tax Act. The Supreme Court observed that the various documents supplied by the foreign collaborators more or less formed the tools by using which the business of manufacturing the instruments was to be done by the applicant and that the expression `plant’ must be given a wider meaning. It was held that the technical know-how in the .shape of drawings, designs, processing data, etc. fell within the definition of plant and was, therefore, a depreciable asset. There was no discussion on the question whether the foreign collaborator can be said to have received fee for technical services for supplying the know-how in the form of drawings and documents. In fact, during the relevant assessment year, section 9(1)(vii) was not on the Statute Book. The second question answered in that case was that the expenditure incurred by the appellant was of a capital nature as a result of which a capital asset of technical know-how in the shape of drawings and designs, processing data, etc. acquired by the assessee and that capital asset was a depreciable asset. None of these points arise for consideration in the instant case. The observation that the expenditure incurred by the assessee by way of `purchase price’ of the drawings etc. comprised in documentation services shall be confined to the context. The ratio of that decision cannot be pressed into service to draw the conclusion in the instant case that the contract is one of sale of architectural designs and drawings. In fact, as stated earlier, the FTS provision was not enacted at that point of time.
11.1. The next case relied upon by the applicant’s counsel is the decision of the Division Bench of Calcutta High Court in CIT Vs Davy Ash more India Ltd. In that case, the assessee received a `letter of intent’ from LMI Ltd., for maintenance and supply of terminal equipment for a cold rolling mill being imported by them. LMI issued a purchase order in terms of which the assessee was to arrange import of concept designs and drawings for enabling it to prepare detailed manufacturing drawings for the purpose of manufacture of the terminal equipment. On receipt of the purchase order from LMI, the assessee placed an order with a U.K. company- DMP Limited for the supply of one print each of concept designs and drawings for the terminal equipment. The `letter of intent’ specifically mentioned that the remittances of purchase consideration would be made subject to the approval of RBI. The ITO took the view that the payments made to the non-resident company were in the nature of `royalty’ within the meaning of Explanation 2 to Section 9(1)(vii) of the Act. The CIT(Appeals) and he Tribunal, however, held that the payment to the non-resident was not in the nature of `royalty’. This view was confirmed by the High Court. After considering the meaning of `royalty’, the High Court held thus:
“The present case is not a case where the non-resident is retaining the property in the designs and drawings. Such designs and drawings are imported under the import policy and with the approval of Reserve Bank of India on the basis of the `letter of intent’: The importation of the designs and drawings postulates an out and out transfer or sale of such designs and drawings and the non-resident company does not retain any property in them leaving the grantee to use or exploit them. The consideration paid for transfer, therefore, cannot be treated as `royalty’ falling under Article XII of the Agreement for Avoidance of Double Taxation between India and the U.K. The consideration paid is for an outright transfer of the drawings and designs by the non-resident company and such consideration cannot be termed as royalty.”
We do not think that this decision has a bearing on the issue to be determined in the present case i.e. whether the payment received by the applicant under Consultancy Service Agreement is in the nature of FTS within the meaning of section 9(1)(vii) of the Act and Article 12.4 of the Tax Treaty between India and Germany. Further, it may be noted that apart from supplying the concept designs and drawings which the U.K. Company was having with them, there was no rendition of any sort of technical or consultancy service in India. As it was a case of outright sale as distinct from the conferment of the right to use the designs, plans, secret formula etc. the payment made to U.K. Company was held to be not in the nature of royalty. The nature of the contract and the transaction is very much different in the case on hand.
11.2. One more case relied upon by the applicant’s counsel is the decision of Madras High Court in CIT Vs Neyveli Lignite Corporation Ltd. That case too does not come to the aid of the applicant. The point considered in that case was more on the applicability of the Section 9(1)(vi) i.e. the royalty provision. The contract in that case was for the design, manufacture and supply of all imported equipment as well as supervision of erection, testing and commissioning of steam generating units. The Income-tax Officer held that the amounts payable under the contract for design and engineering was the income which had accrued to the foreign contractor in India, and therefore, the tax had to be deducted. The High Court upheld the view of the Tribunal that the amount paid as a part of the total contract price towards design and engineering of the steam generators supplied by the foreign companies to the assessee was not royalty and the foreign company was not liable to pay tax in India on this amount. The High Court held that neither sub-clause (vi) or (vii) of Section 9 would be applicable as the design was only preliminary to the manufacture and integrally connected therewith. The design supplied was not to enable the assessee to commence the manufacture of the machinery itself with the aid of design, but the limited purpose of furnishing the designs and drawings was only to ensure that they had the approval of requirements of the buyer. The fact situation and the nature of contract here is very much different. We are unable to appreciate how the said decision supports the applicant’s contention.
12. For the aforesaid reasons, we cannot accept the contention of the applicant that the income received under the contract with the Government of Tamil Nadu is not in the nature of FTS and that the transaction shall be construed to be an outright sale of designs and drawings.
21.13. Question no.3 relates to Permanent Establishment. The other questions following question no.3 are framed by the applicant on the premise that there is a permanent establishment of the applicant in India. It is of course, the case of the applicant that there is no permanent establishment. On the facts stated by the
applicant (adverted to in paragraph 2 supra), it cannot be said that the applicant has a permanent establishment in India. Going by the scope and nature of work actually done by the applicant, it is difficult to infer that the applicant would have had a fixed place PE in India. Further it is not the case of the Revenue that the sub-contractor’ s place shall be deemed to be the PE of the applicant. The facts and material on record do not lead such inference.
14. Before closing the case, we may refer to one more aspect. The Revenue in its comments has taken an extreme stand that the entire receipts representing fees for technical services are liable to be taxed in India, suggesting thereby that even the amounts received by the sub- contractor should also be taxed in the hands of the applicant. It is pointed out in this context that the sub-contract cannot be viewed separately. The stand taken by the department in this regard is wholly untenable. The payment received by the sub-contractor from the client on the basis of certification made by the applicant cannot be tagged on to the applicant’s income. In fact, tax is allowed to be deducted only on the amounts received by the applicant from the Government as per the order passed by the concerned income tax authority.
15. The answers to the questions are as follows:
Q.No. (1) & (2): The amount received by the applicant from the Government of Tamil Nadu under the contract is essentially in the nature of “fees for technical services” within the meaning of Explanation 2 to Section 9(1)(vii) of the Income Tax Act, 1961 read with Article 12.4 of DTAA and cannot be regarded as consideration for the sale of designs and drawings. Question no. (1) & (2) are answered accordingly.
Q. No. (3): On the facts presented by the applicant, it must be held that the applicant has no Permanent Establishment in India. The question is answered in the negative.
Q. No. (4), (5) & (6): In view of answer to the 3 rd question, these questions need not be answered. Accordingly, the ruling is given and pronounced on this 29th day of January, 2010.