$~
* IN THE HIGH COURT OF DELHI AT NEW DELHI
Reserved on: 07.05.2015
Pronounced on: 27.05.2015
+ ITA 95/2005
DIRECTOR OF INCOME TAX DELHI ..................Appellant
Through: Sh. Rohit Madan, Sh. Ruchir Bhatia and Sh.
Akash Vajpai, Advocates.
Versus
M/S. LUFTHANSA CARGO INDIA .................Respondent
Through: Sh. Ajay Vohra, Sr. Advocate with Sh.
Mukesh Butani, Sh. Vishal Kalra and Sh. Khyati
Dadhwal, Advocates.
CORAM:
HON'BLE MR. JUSTICE S. RAVINDRA BHAT
HON'BLE MR. JUSTICE R.K. GAUBA
MR. JUSTICE S. RAVINDRA BHAT
%
1. The following two questions of law have to be answered in this
appeal, under Section 260A of the Income Tax Act, 1961 (hereafter "the
Act"):
1. Whether the Income Tax Appellate Tribunal (ITAT) has rightly
interpreted the agreements between the assessee and non-residents
and is right in holding that payments made by the assessee to the non-
residents are not fee for technical services within the meaning of
Section 9(1)(vii) of the Income Tax Act, 1961 so as to oblige the
assessee to deduct tax at source under Section 195 of the Act from
such payments?
2. Whether the ITAT was right in holding that payments made by
the assessee fell within the purview of the exclusionary clause of
ITA 95/2005 Page 1
Section 9(1)(vii)(b) of the Act and were not, therefore, chargeable to
tax at source?
2. The assessee was at the relevant time (in mid 1997), engaged in the
business of wet-leasing. It had acquired four old Boeing aircrafts (727-200
Model) from a non-resident company outside India. After registration of the
aircraft with the DGCA, the assessee hired the crew, ground engineers and
other technical personnel for their operation. It was granted the license by
the DGCA to operate these aircrafts on international routes only. The
assessees Boeing 727-200 aircrafts were not used by any other airline in
India. Consequently there were no facilities in India for their overhaul
repairs. However, according to DGCA directives various components and
the aircraft itself had to undergo periodic overhaul repairs before the expiry
of the number of flying hours prescribed for such individual components.
Such overhaul repairs were permissible only in workshops authorized for the
purpose by the manufacturer as well as duly approved by the DGCA.
3. The assessee's all four aircrafts were wet-leased to a foreign company,
Lufthansa Cargo AG, Germany (hereafter "LCAG") under an Agreement
dated April 28, 1997. In airline parlance, "wet leasing" means the leasing of
an aircraft along with the crew in flying condition to a charterer for a
specified period. The lessor has the responsibility for maintaining the crew
and the aircraft in airworthy condition. The lessee is free to direct the flight
operations by naming destinations in advance and load any lawful cargo for
carriage. The lessee pays rental on the basis of number of flying hours
during the period subject to a minimum guarantee as per the terms of the
charter party.
ITA 95/2005 Page 2
4. India is a party to several International Conventions governing aircraft
maintenance. Under the Aircraft Act, 1934 read with Aircraft Rules, 1937,
the necessary regulatory and enforcement powers have been delegated by
the Government to the DGCA. The latter issues notifications and guidelines
etc. from time to time in regard to the maintenance and upkeep of aircraft.
Every aircraft operator has to strictly abide by these guidelines; non-
compliance entails in immediate withdrawal of the license and grounding of
aircraft. As the assessee was obliged to keep the aircraft in flying condition,
it had to maintain them in accordance with DGCA guidelines to possess a
valid airworthiness certificate as a precondition for its business. The
assessee's engineering department would track the flying hours of every
component; and before the expiry of flying hours, the component needing
overhaul/repairs or needing replacement would be dismantled by the
assessee's engineers and flown to Lufthansa Techniks (a German company,
hereafter "Technik") workshops in Germany. The parts were supplied by
Technik under separate agreement of sale, loan or exchange. In due course,
the overhauled component would be dispatched by Technik along with
airway bill for which the freight would be paid by the assessee. The
overhauled component would be fitted into aircrafts by the assessee's own
personnel.
5. The assessee had entered into an agreement with the overhaul service
provider, called "the Technik Agreement" on 14.3.1997. Technik carried out
maintenance repairs without providing technical assistance by way of
advisory or managerial services. LCAG utilized the aircrafts wet-leased to it
for transporting cargo mainly to and from Sharjah to Mumbai, Delhi,
Kathmandu, Lahore, Calcutta, Chennai, Bangalore and Colombo. As the
ITA 95/2005 Page 3
DGCA license permitted operations on international routes only, the
aircrafts were not utilized by LCAG for carriage of cargo within India.
LCAG had integrated its international air transport business at Sharjah with
its worldwide network. The cargo brought from South Asian Countries
would be put into wide-body aircrafts and flown from Sharjah to various
destinations in Europe and the American continent. The assessee maintained
a base at Sharjah where the aircrafts were normally kept and where its crew
and engineering personnel were also stationed. The accounts of the branch at
Sharjah are duly reflected in the audited Annual Accounts of the Company.
6. The repairs by way of component overhaul in the Technik workshops
in Germany and other foreign workshops were in the nature of routine
maintenance repairs. No Technik personnel were ever deputed to India for
rendering any technical or advisory services to the assessee. Likewise, the
assessee's technical personnel did not participate or involve themselves in
the overhaul repairs carried out abroad by Technik or other foreign
workshops. The services enumerated in attachments 'A' and 'B' of the
Technik Contract are described below:-
(a) Provision of Personnel
(b) Engineering Support Services including:
i) Engineering work which includes air worthiness.
ii) Directives and Alert services
iii) Development design and modification
iv) Familiarization course.
Article 2 of the Agreement stated that such services would be provided by
ITA 95/2005 Page 4
Technik at the request of the assessee.
7. In the assessment proceedings, it was contended that Technik carried
out normal maintenance repairs including supply of spares, and therefore,
had Technik been a domestic company, the payments to it would be covered
by the provisions of Section 194C and not by the provisions of Section 194J,
which cover fees for technical services as defined in Section 9(1)(vii). The
assessee stressed that in terms of International Conventions, every
component containing rotable parts is allotted a unique identity number and
its historical record is maintained in a tag which accompanies the component
throughout its life. Such component including engines needs to be
overhauled periodically in accordance with Boeing's manual. The assessee
used to send components with tag to the workshop abroad. Technik's
workshops in Germany were duly authorized by the manufacturer, i.e
Boeing USA. Upon receipt, Technik overhauled the component in terms of
the Manufacturer's Manual, as mandated by DGCA. The assessee had no say
in the matter; it was unaware of the kind of repairs that had been carried out,
as none of its employees visited Technik's facilities in connection with the
repair work. It is submitted that the assessee's interest is that Technik
returned the overhauled component duly certifying that it has carried out the
prescribed overhaul repairs. It is evident from the invoices of Technik, ATC
Lasham and others that those workshops replace parts at their own discretion
in the course of overhaul of a component. The replaced parts, however,
come with tags giving their unique identity number and history. They also
issue warranty for free-of-defect functioning of the component for the
requisite number of flying hours. It was argued that the repair work carried
out by Technik etc. was not in the nature of technical assistance by way of
ITA 95/2005 Page 5
providing managerial, consultancy or technical services to the assessee. In
short, the components were sent to the authorized workshops for carrying
out overhauling of components and not for seeking any technical or advisory
services. The assessee contended that it satisfied the requirements of the
DGCA for carrying out prescribed maintenance repairs of the aircraft. These
repairs, therefore, do not constitute 'managerial', 'technical' and 'consultancy
services as defined under Explanation 2 to Section 9(1) (vii)(b) of the Act.
8. After considering the record, including the agreement with Technik,
the Assessing Officer (AO) noticed that no tax was deducted at source on
payments to Technik and no application under Section 195(2) was filed. The
AO held that payments were in the nature of 'fees for technical services'
defined in Explanation 2 to Section 9(1)(vii)(b) of the Act, and were,
therefore, chargeable to tax on which tax should have been deducted at
source under Section 195(1). The AO rejected the assessee's plea that the
payments for repairs were incurred for earning income from sources outside
India and therefore, the case fell within the exclusionary clause of Section
9(1)(vii)(b). The AO further rejected the assessee's plea that the business of
aircraft leasing was carried on outside India. The assessee's alternate plea
that in any case the payments made to residents of USA, UK, Israel,
Netherlands, Singapore and Thailand could be taxed as business profits only
and not as fees for technical services keeping in view the relevant provisions
of the DTAAs with those countries too was rejected. The AO passed orders
under Section 201 of the Act deeming the assessee to be an assessee in
default for the financial years 1997-98 to 1999-2000, and levied tax as well
as interest under Section 201 (1A) of the Act.
ITA 95/2005 Page 6
9. On appeal, the CIT (A) rejected the assessee's contention that the
payments made to the various non-residents for carrying out overhaul
repairs were not chargeable to tax. The payments made to Technik were
treated as the model for considering the question of taxability of payments
made to all other foreign companies. CIT (A) held that such repairs required
knowledge of sophisticated technology and trained engineers are employed
by the non-residents for carrying out the overhaul repairs. According to the
CIT (A), the repairs constituted 'fees for technical services' and therefore
were subject to TDS. With reference to payments made to residents of UK
and USA, the CIT (A) held that they were not in the nature of ,,fees for
technical or included services under Article 12 of the DTAA read with the
Memorandum of Understanding with USA which equally applied to the UK
Treaty. Payments made to residents of USA and UK were held to be
'business profits' and since those companies did not have a PE in India, their
income was not chargeable to tax. The revenue appealed against the order of
the CIT (A) on that point; the assessee appealed against other findings
adverse to it, to the ITAT.
10. The ITAT noticed that the agreement with Technik provided for three
categories of services; they were outlined in Attachments A, B and C. It held
that the CIT (A) was in error in holding that since the agreement provided
for all kinds of services, it amounted to providing for technical services. The
ITAT held, pertinently, that:
"26. A reading of the Technik Agreement shows that apart from above
quoted general clauses, it also contains three other independent and
distinct sections. Each such section is by itself a self-contained
contract dealing with distinct subject matter stipulating independent
and separate terms and conditions. These three sections are:
ITA 95/2005 Page 7
a) 'Attachment A' of the Agreement dealing with 'Engineering support
services' on request including provision of training.
b) 'Attachment B' of the Agreement relating to 'Assignment of
personnel' on request by Technik,
c) 'Attachment C' of the Agreement concerning Repairs and overhauls
of the components.
Attachments 'A' & 'B' of the Technik Agreement deal with the
engineering support services including training and assignment of
personnel by the Technik. These are clearly optional services which
would be provided by the Technik for the charges specified in the two
'Attachments' only on the specific request of the assessee. The
assessee has emphasized that none of these services was availed of
and therefore no payment was made on this account. All the invoices
raised by the Technik were produced before the lower authorities and
no instance of payment for training or other optional support services
as per Attachment 'A' and 'B' of the contract has been brought out
either by the Assessing Officer or by the CIT(A). Ld. DR has also not
cited any instance of payment for any of the optional services
enumerated in Attachment 'A' and 'B'. Ld. DR has also could not
controvert that payments to Technik were made for specific job work
of repairs and replacement of parts, and no technician was assigned
to India for consultancy or supervision of repairs. We are therefore of
the view that simply because Attachment 'A' and 'B' stipulate charges
for optional services, it cannot be said that any payment is
attributable to such services. These services are optional and could be
performed on specific request by the assessee. On the facts brought
out before us such option was not exercised by the assessee. Ld. DR
also could not indicate any clause in the Technik Agreement which
would oblige the assessee to pay the fees towards optional services
even if such an option is not exercised by the assessee. In the
circumstances, we hold that CIT (A) was not correct in making
attachments 'A' and 'B' of the Technik Contract as the basis for
concluding that the payments were primarily made for rendering of
technical services..."
Attachment C reads as follows:
"Attachment 'C'
1. SCOPE OF SERVICES
ITA 95/2005 Page 8
1.1 Repair, overhaul, modification and test of all components as far
as identical with Lufthansa Technik's own components. In cases of
differences in the dash-number repair/overhaul items shall only be
accepted after Lufthansa Technik's prior telex confirmation;
1.2 Material, supply out of Lufthansa Technik stock for above
components repair/overhaul in accordance with Article 2 hereof.
1.3 Lufthansa Technik shall be entitled to subcontract repair and
overhaul of components in accordance with Article 4 of the GTA.
1.4 Each overhauled component will be redelivered with the following
documentation:
1. JAA form (Airworthiness Approval Tag)
2. Workshop Report
3. Test Reports if applicable
2. MATERIAL PROVISIONING
2.1 Repairable and consumables required for the work to be
performed on the Customer's components shall be supplied by
Lufthansa Technik on the basis of sale provided Lufthansa Technik's
stock permits such supply.
2.2 Modification material and, if required serialized subassemblies
shall be provided by the Customer.
2.3 If specially requested by the Customer, and if Lufthansa Technik's
stock permits such supply, Lufthansa Technik shall provide rotables
out of its stock under Lufthansa Technik's normal Loan Agreement
conditions. A copy of such Loan Agreement is attached hereto as
Annex B.
2.4 If specially requested by the Customer and, if Lufthansa Technik's
stock permits such supply, Lufthansa Technik shall provide repairable
out of its stock on 1.1 basis using Lufthansa Technik's form Exchange
1.1 Agreement Annex A.
3. SHIPPING
3.1 Any shipments of the customer's components to and form the
respective Lufthansa Technik Base shall be effected at the Customer's
own risk and expense.
4. CHARGES
ITA 95/2005 Page 9
Article 4 For the work performed pursuant to Article 1 hereof, the
Customer shall be charged according of Lufthansa Technik's man-
hour rates valid at that time as stipulated in Annex A1 of the GTA.
For material consumed the Customer shall be charged, with the
manufacturer's list prices plus a material handling surcharge of
twenty five (25) percent.
Subcontracted work in the sense of Article 4 of the GTA shall be
charged according to the amount payable by Lufthansa Technik to the
subcontractor plus a handling charge of ten (10) percent plus
transportation costs, if any.
In case of repair work the Customer shall pay a minimum charge per
event of DM 1,000,-."
Upon an analysis of the various terms of the agreement and the actual
services provided by Technik and availed by the assessee, it was held that
the amount received by the former was a routine business receipt and not
technical fee: "it cannot therefore be said that Technik rendered any
managerial, technical or consultancy service to the assessee."
11. Upon a consideration of the wet leasing activity of the assessee and
the agreements it entered into with foreign companies, the ITAT held that
these arrangements showed that:
"(i) The assessee has to maintain the crew and keep the aircrafts in
airworthy state.
(ii) The assessee company earns rental income on block-hours basis.
(iii) The assessee cannot wet-lease the aircrafts to a third party
without a written permission from the LCAG.
(iv) In case of non-utilisation of aircrafts by the LCAG, it has to pay
minimum guaranteed rental 240 block-hours per month in accordance
with Clause No. 2.2 read with, Annexure 3 of the contract.
(v) The amount of leasing revenues depends on the number of flying
hours utilised by LCAG and not on the value of freight earned by the
LCAG.
ITA 95/2005 Page 10
(vi) The assessee is also assured of minimum rental income in the
event LCAG does not actually use the aircrafts.
48. In this view of the matter, we are satisfied that the assessee's
immediate source of income is from the activity of wet-leasing of
aircrafts under contracts made outside India to non-resident parties.
A miniscule fraction of the lease rental (0.2%) has been earned from
an Indian party. But, this cannot detract from the fact that virtually
entire income has been earned from non-residents through the activity
of wet-leasing of the aircrafts carried on outside India.
49. The assessee's activity of wet-leasing of air-crafts is a distinct
activity which constitutes a source form which income has been
earned. Revenue is not correct in identifying this leasing activity with
the transportation activity of the lessee, LCAG, Germany."
The ITAT concluded, on the facts as follows:
"The sources from which the assessee has earned income are
therefore outside India as the income earning activity is situated
outside India. It is towards this income earning activity that the
payments for repairs have been made outside India. The payments
therefore fall within the purview of the exclusionary clause of Section
9(1) (vii) (b). Thus, even assuming that the payments for such
maintenance repairs were in the nature of fees for technical services,
it would not be chargeable to tax.
********* ******* *****
As per this chart the leasing revenues earned in foreign exchange
were 100%, 99.79% and 99.86% for the Financial Years 1997-98,
1998-99 and 1999-2000, respectively. This chart also gives the
figures of direct operational expenses in foreign exchange on actual
payment basis as culled out from the Annual Accounts of the company
for three years (at pps. 122, 132, 143 of the Paper Book). As per the
annual accounts, the direct expenses are mainly on account of lease
rent, travelling and training, foreign office expenses, maintenance,
interest on aircrafts acquired under hire-purchase, and depreciation.
The aggregate of the direct expenditure incurred outside India works
out to 55%, 81% and 67% of the total expenses debited to Profit &
ITA 95/2005 Page 11
Loss Account of each of the three years. It is submitted that remaining
indirect expenditure was on account of Head Office expenses in India
and expenditure on the ground staff, overnight stay of crew and
airport charges etc. When the aircrafts landed in Indian airports for
delivering and picking up cargo.
52. The Ld. CIT DR relied on the order the Assessing Officer and
contended that the assessee's business was controlled from India and
therefore it cannot be said that the business was carried on outside
India.
53. We have carefully considered the rival submissions and we have
also gone through the annual accounts of the assessee for the
Financial Years ended 31.3.98, 31.3.99 and 31.3.2000 respectively,
filed in the Paper Book. The question whether a business is carried on
in India or outside India cannot be decided by the situs of the Head
Office or the place of control of the business. The assessee, being an
Indian company, would have the Head Office or the place of control
in India. We agree that the assessee's business of wet-leasing of
aircrafts have been predominantly carried on outside India. The
assessee's business of wet-leasing of aircrafts is composed of a
number of operations such as acquisition of aircrafts, wet-leasing,
maintenance of crew and engineering personnel, aircrafts
maintenance and establishment, etc. It is settled law that profits of a
business cannot be said to accrue only in the place where sales take
place or the revenue is earned, but they are embedded in each distinct
operation of the business, both on the revenue and the expenditure
side. For this legal proposition, we are supported by the decision of
the Supreme court in the case of Anglo French Textile Company Ltd.
v. CIT (1954) 25 IRT 27, where relying on an earlier judgment of the
larger bench in the case of CIT v. Ahmed Bhai Umar Bhai and Co.
(18 ITR 472)...
********* ******* *****
54. The Ld. Counsel for the assessee fairly states that he has no
objection to the apportionment on the basis of the above-quoted
decision. He, however, submits that virtually 100% of the Revenues
were earned outside India and the aggregate direct expenditure
incurred outside India is about 71%, and another 10% should atleast
be attributed to the business outside India on account of Head Office
ITA 95/2005 Page 12
expenses incurred in India.
55. Normally, we would have referred the matter to the Assessing
Officer to verify the figures and work out the apportionment on a
reasonable basis. However, we need not go into this arithmetical
exercise because we have already held that the payments made to
Technik and other foreign companies for maintenance repairs are not
in the nature of fees for technical services as defined in Explanation-2
to Section 9(1) (vii)(b). Further, in any event these payments are not
taxable for the reason that they have been made for earning income
from sources outside India and therefore fall within exclusionary
clause of Section 9(1) (vii)(b).
56. In view of our decision allowing the main ground relating to
chargeability of tax, the alternate grounds have become academic.
We therefore do not propose to go into them though considerable
arguments were advanced on the alternate grounds."
12. Mr. Rohit Madan, learned counsel for the revenue argues that the
AO's finding that the assessee used sophisticated technical experience and
skills of the personnel of the Technik in the process of repairs and overhaul
carried out on the aircraft clearly showed that the services were technical in
nature. It was argued that the assessee defaulted in not deducting tax before
making payments in accordance with the provisions of Section 195(1) of the
Act and therefore, it could not plead that the receipts in the hands of the non-
residents is not chargeable to tax under the Act. Counsel also stressed that if
the assessee was of the view that no tax was deductible on the payments
made to foreign companies it should have made an application with the AO
under Section 195(2) of the Act. Stating that Section 195(1) is concerned
with "payment to non residents" and not with the taxability of the
corresponding "income of the non-resident" it was argued that if the assessee
defaulted by not having deducted tax at source at the time of payment, it
cannot later argue that the corresponding income of the non-resident was not
ITA 95/2005 Page 13
chargeable to tax. Learned counsel also relied on the concurrent findings of
the CIT (A) that all payments made were in accordance with the Agreements
signed by the Assessee with Technik. It was contended that payments for
various services were specified in the Agreement on annual basis while
other charges are on man hour basis. The charges were for specialized and
sophisticated services which fell squarely within the ambit of "fees for
technical services" as envisaged under Explanation 2 to Section 9(1)(vii) of
the Act. He drew our attention to the various findings recorded in the orders
of the CIT (A).
13. Mr. Madan next submitted that to fall under the excepted category in
Section 9 (1) (vii) (b), i.e "except where the fees are payable in respect of
services utilised in a business or profession carried on by such person
outside India or for the purposes of making or earning any income from any
source outside India", there should be clinching evidence to establish that
indeed the income is earned wholly out of India. It was argued that the CIT
(A) held correctly that in terms of the agreement between the assessee and
LCAG the latter only has priority over others in use of the aircraft.
Crucially, there was no compulsion restricting the assessee to wet-leasing
the aircraft to third parties. The lower authorities found that aircraft were
wet-leased to LCAG and also to other parties. Therefore it could not be said
that the revenues were earned wholly from a source outside India. The
findings of the AO that since the income from leasing of aircrafts is assessed
to tax in India, the source of income is situated in India were also
highlighted.
14. Learned counsel stated lastly, that the amendment, with retrospective
ITA 95/2005 Page 14
effect, of Section 9 and substitution of Section 9 (2) meant that such
payments amounted to income in the hands of the non-resident Indians. The
said amendment reads as follows:
"Section 9...(2) For the removal of doubts, it is hereby declared that
for the purposes of this section, income of a non-resident shall be
deemed to accrue or arise in India under clause (v) or clause (vi) or
clause (vii) of sub-section (1) and shall be included in the total
income of the non-resident, whether or not,-
(i) the non-resident has a residence or place of business or business
connection in India; or
(ii) the non-resident has rendered services in India."
It was submitted that any doubts as to whether the assessee was obliged to
deduct tax at source, is set at rest by virtue of Section 9 (2) which clarifies
that income of a non-resident is deemed to arise in India and "shall be
included in the total income of the non-resident" regardless of whether such
entity has a place of business or business connection and the situs of services
provided.
Assessee's contentions
15. Mr. Ajay Vohra, learned senior counsel for the assessee, argued that
the findings of the ITAT with respect to the nature of services, i.e they were
not technical services is correct and should not be disturbed. It was
submitted that the ITAT took pains to analyze the correspondence, invoices
raised by Technik and the relevant clauses of the agreement with it. The
service obtained from that entity was in line with Attachment C, which was
concerned only with overhaul and repair.
16. It was urged that by reason of Section 5(2) of the Act, a non-resident
is liable to tax in India in respect of all income from whatever source
ITA 95/2005 Page 15
derived which (a) is received or is deemed to be received in India by or on
behalf of such person; or (b) accrues or arises or is deemed to accrue or arise
to him in India during the year. Section 9 of the Act deems certain income to
accrue or arise in India. Counsel submitted that the said provision prescribes
that fees for technical services payable, inter alia, by a person resident in
India is deemed to accrue or arise in India and, therefore, liable to tax in
India in the hands of non-resident service provider. He relied on the
Supreme Court judgment in Ishikawajima Harima Heavy Industries Ltd. v.
DIT 2007 (288) ITR 408 to say that to apply Section 9(1)(vii), services
should not only be rendered in India, but also utilized in India. It was argued
that to nullify the said decision Parliament enacted Explanation to Section
9(2) by Finance Act, 2007 which was again substituted by Finance Act,
2010 w.e.f. 1.06.1976. The effect of those amendments by enactment of
Section 9(2) is to clarify beyond doubt that income by way of, inter alia,
fees for technical services would be deemed to accrue or arise in India and
consequently taxable in India, in the hands of the non-resident recipients, if
the payer is a resident, irrespective of the situs of services, i.e. the place
where the services are rendered.
17. Mr. Vohra said that Section 9(1)(vii) (b) of the Act provides an
exception to the general source rule by providing that where the services
rendered by the non-resident service provider (recipient of income) are
utilized by the resident payer for purpose of earning income from any source
outside India, then, in that situation, such fees would not be deemed to
accrue or arise in India. It was highlighted that the Explanation to Section
9(2), added by Finance Act, 2010 w.e.f. 1.06.1976 merely clarifies the
source rule, i.e., income is deemed to accrue or arise in India where the
ITA 95/2005 Page 16
payer is an Indian resident and the situs of services, i.e. the place where
services are performed is immaterial. The Explanation is not intended to
take away the exception provided in clause (b) to Section 9(1)(vii) of the
Act. The assessee submits that there is no conflict between the provisions of
Explanation to Section 9(2) and clause (b) to Section 9(1)(vii) of the Act; the
two provisions operate in different fields. Resultantly, the exception
provided in Section 9(1)(vii) (b) of the Act is not taken away by the
retrospective insertion of Explanation to Section 9(2) of the Act.
18. The assessee relied on Supreme Court judgment in Sundaram Pillai v.
Pattabiraman 1985 (1) SCC 591 to highlight that the object of an
Explanation to a statutory provision is to explain the meaning and
intendment of the Act itself, where there is any obscurity or vagueness in the
main enactment or to clarify the same so as to make it consistent with the
dominant object which it seems to sub-serve. It cannot, however, take away
a statutory right with which any person under a statute has been clothed or
set at naught the working of an Act by becoming a hindrance in the
interpretation of the same. Counsel lastly relied on the recent Supreme Court
judgment interpreting Section 9(1)(vii) of the Act in GVK Industries Ltd. v.
ITO 371 ITR 453. Explaining the interplay between Section 9(1)(vii) and the
amendment made by Finance Act, 2007 and Finance Act, 2010 resulting in
retrospective insertion of Explanation to Section 9(2) of the Act, the Court
clarified that the exception provided in terms of clause (b) to Section
9(1)(vii) was not overridden by insertion of Explanation to Section 9(2) of
the Act and that for "fees for technical services" to be taxed in India, it is
imperative that the payer is resident in India and that the services are utilized
in India. As a sequitur, where the resident utilizes the services provided by
ITA 95/2005 Page 17
the non-resident service provider for purpose of earning income from any
source outside India, payment for such services is not deemed to accrue or
arise in India and hence not taxable in India. The Supreme Court also dealt
with the two principles, namely situs of residence and situs of source of
income and pointed out that the "Source State Taxation" rule which confers
primacy to right to tax a particular income or transaction to the State/nation
where the source of the said income is located, is accepted and applied in
international taxation law. In the said judgment, it was observed that
"deduction of tax at source when made applicable, it has to be ensured that
this principle is not violated."
Analysis and reasoning
Question No.1:
19. The ITAT, in the impugned order has returned a finding that the
services provided by Technik did not fall within the expression "technical
service" and that Section 9(1)(vii) did not apply at the threshold. To arrive at
this conclusion, the ITAT held that the assessee had no say in the work done
by Technik and did not know what kind of repairs were carried out and that
none of its employees ever visited Techniks facility in connection with such
work. The ITAT surmised that since what the assessee asserted is that the
overall components are returned duly certified by Technik that it had carried
out the prescribed repairs, along with warranty and tax, there was no
technical assistance by providing managerial, consultancy or technical
services. It concluded that Technik performed the entire work on "an
inanimate body without any involvement or participation of assessee's
personnel". It also held that managerial or physical exertion by Techniks
ITA 95/2005 Page 18
engineers on the assessees components did not render such services
managerial, technical and consultancy services within the meaning of
Section 9(1)(vii)(d).
20. This Court is of the opinion that the ITAT was unduly influenced by
all the regulatory compulsions which the assessee had to face. Besides
international convention and domestic law that mandated aircraft component
overhaul, the manufacturer itself as a condition for the continued
application of its warranty, and in order to escape any liability for lack of
safety, required periodic overhaul and maintenance repairs. Unlike normal
machinery repair, aircraft maintenance and repairs inherently are such as at
no given point of time can be compared with contracts such as cleaning etc.
Component overhaul and maintenance by its very nature cannot be
undertaken by all and sundry entities. The level of technical expertise and
ability required in such cases is not only exacting but specific, in that,
aircraft supplied by manufacturer has to be serviced and its components
maintained, serviced or overhauled by designated centres. It is this
specification which makes the aircraft safe and airworthy because
international and national domestic regulatory authorities mandate that
certification of such component safety is a condition precedent for their
airworthiness. The exclusive nature of these services cannot but lead to the
inference that they are technical services within the meaning of Section
9(1)(vii) of the Act. The ITATs findings on this point are, therefore,
erroneous. This question is accordingly answered in favour of the Revenue.
Question No.2.
21. This question relates to the treatment of expenditure incurred by the
ITA 95/2005 Page 19
assessee (i.e. the payments made) towards its activities outside India. Here,
the assessees submission was that the payment made fell within the
exclusionary part of Section 9(1)(vii)(b) and was not affected by the
Explanation to Section 9(2). The assessee stressed upon the fact that no
foreign technician was deputed to work in India. The assessees submission
is that the source of its income is wet-leasing activity to non-resident
companies and consequently the source of income is outside India.
Secondly, leasing revenue was received in convertible foreign exchange
directly from foreign charterers through wired transfer in assessees account
denominated in foreign currency but maintained in India with the permission
of the RBI and that the remittances to the foreign company for repairs had a
direct nexus with the income. It was underlined here that payments to
Technik for maintenance and repairs was essential and crucial for earnings
from the wet-leasing activity. It was argued that Articles 2 and 3 of the
contract with LCAG clearly state that only when the latter informed the
assessee in writing that it did not require a certain capacity for a particular
period, that the assessee could wet-lease the aircraft to others for that period.
In all other periods, the assessee is committed to wet-lease the aircraft to
LCAG, and the assessees failure to do so would imply that LCAG was
obliged to pay the rent for the minimum guaranteed block hours. The
assessee relied upon the revenue earned on a comparative basis from LCAG
and other wet-lease charters. The said chart is reproduced below:
F.Y. 1997-98 F.Y.1998-99 F.Y.1999-00
Traffic Revenue
from wet lease of
aircraft's
received from
ITA 95/2005 Page 20
Lufthansa Cargo 318,513,565 854,612,518 657,569,352
AG (Germany)
Singapore -- 67,352,333 41,020,195
Airlines
(Singapore)
Pacific Asia -- 26,125,451 37,769,600
Cargo Airlines
(Indonesia)
Shareef Express -- 2,038,548 1,065,865
Travels (UAE)
Falcon Air 974,220 -- --
Express Cargo
Airlines (UAE)
Total 319,128,850 950,128,850 737,425,012
22. It was submitted that the revenue earned from LCAG accounted for
99%, 90% and 89% of the aggregate lease rentals earned by the assessee in
A.Y. 1997-98, 1998-99 and 1999-2000 respectively. The balance income
was also earned from foreign wet-lease. The Revenues contention, on the
other hand, was that the materials did not show that entire income was
earned from sources outside India and consequently, the payment made to
Technik could not be excluded. The Revenue also relied on the retrospective
amendment to Section 9(2) made in 2010 to say that regardless of the
question as to whether the expenditure is towards income earned abroad, the
payee is deemed to have earned income in India by virtue of the amendment.
23. Before proceeding to analyse the merits of the rival contentions, it
would be essential to extract the stipulations in the contract between LCAG
and the assessee. They are as follows:
"3.1 Operations
The Aircrafts employed shall hold a valid Certificate of Airworthiness
issued by the Civil Aviation Authority of India (DGCA) or by any other
ITA 95/2005 Page 21
country should such issuance become necessary to perform the
obligations of LCI as set forth under this Agreement. The Aircraft shall
remain registered under the registration of LCI during the entire
period of this Agreement. LCI shall ensure that Aircraft registrations
and authorizations are suitable to perform flights to all countries set
forth in the flight schedules hereunder.
LCI shall maintain the Aircraft during the term of this Agreement in
accordance with LCI's maintenance program and schedule as
approved by the Civil Aviation Administration of India or any such
program or schedule mutually agreed upon between the parties.
All flights operated under this Agreement shall be performed under the
operational control of LCI in all respect.
LCI shall obtain and maintain throughout the term of this Agreement
all necessary licenses and permits required for any operation of the
Aircraft under this Agreement."
XXXXXX XXXXXX XXXXXX
"CAPACITIES AND FLIGHT SCHEDULES Annex. No.-2
1. Capacities to be made available by LCI
Should LCAG anticipate that the capacity provided by LCI under
the Agreement couldn't be utilized by LCAG in its entirety in any
calendar month, LCAG shall give promptly written notice of such
determination to LCI. In the instance such notice is given more than
60 days before the date of the flight concerned, LCI will use its
utmost efforts to re-market the capacities and flights not to be
utilized by LCAG.
Should LCI be able to sell any such agreement the following terms
and conditions apply for the calculation and payments of any
charges by the LCIL for the capacity provided under the agreement.
1. "Block Hour" is defined as the period of time operated
by the Aircraft gate to gate expressed in hours commencing
when the Aircraft moves from the blocks to begin a flight and
ending when the chocks have been inserted under the wheels
after touchdown at the next point of landing. Such Block hours
shall the respective Flight Deck Crews/OPS Dept give charged
and invoiced in accordance of the Movement Message.
ITA 95/2005 Page 22
2. LCAG shall pay to LCI a guaranteed rate as set forth in
this Annes. For each effectively completed Block Hour of
operation or fractions thereof. Such rate (Rate A) shall be:
Until October 31, 1997:
US$ 1,845.00
(US $ One Thousand Eight Hundred and Forty-Five)
per Block Hour
from November 1, 1997:
US-$ 1,630.00
(US $ One Thousand Six Hundred and Thirty)
Per Block Hour.
The aforementioned price shall apply to all block hours
performed by LCI up to a total of 960 (nine hundred and sixty)
Block Hours performed under this Agreement per calendar
month. Unless otherwise agreed upon in this Capacity
Agreement, LCAG shall guarantee to LCI a payment totaling the
amount of 960 (nine hundred and sixty) Block Hours performed
under this Agreement per calendar month.
Should the number of Block Hours actually performed during a
calendar month fall short of the number of Block Hours being in
the minimum Block Hours guaranteed by LCAG, the rate (Rate
B) for such Block Hours not actually performed for reasons not
proved to be under the control of LCI shall be US$ 1,225.00 (US
$ One Thousand Two Hundred and Twenty Five) per Block
Hour."
The explanation to Section 9(2) was inserted by the Finance Act, 2007 with
retrospective effect from 1.6.1976. The said Explanations read as under:
"For the removal of doubts, it is hereby declared that for the purposes
of this section, where income is deemed to accrue or arise in India
under clauses (v), (vi) and (vii) of sub- section (1), such income shall
be included in the total income of the non-resident, whether or not the
non-resident has a residence or place of business or business
connection in India."
ITA 95/2005 Page 23
The Finance Act, 2010 substituted the same explanation with effect from
1.6.1976. It now reads as follows:
"Explanation.- For the removal of doubts, it is hereby declared that
for the purposes of this section, income of a non-resident shall be
deemed to accrue or arise in India under clause (v) or clause (vi) or
clause (vii) of sub-section (1) and shall be included in the total
income of the non-resident, whether or not,-
(i) the non-resident has a residence or place of business or business
connection in India; or
(ii) the non-resident has rendered services in India."
24. It is evident that Parliamentary endeavor through the later
retrospective amendment, was to target income of non-residents. But
importantly, the condition spelt out for this purpose was explicit: "where
income is deemed to accrue or arise in India under clauses (v), (vi) and (vii)
of sub- section (1), such income shall be included in the total income of the
non-resident... whether or not,- (ii) the non-resident has rendered services in
India." The revenue urges that the fiction created by the said amendment is
to do away with the requirement of the non-resident having a place of
business, or business connection, irrespective of whether "..the non-resident
has rendered services in India." Did this amendment make any difference
to payments made to such companies even in relation to income accruing
abroad? The revenue grounds its arguments in the assumption that the later,
2010 retrospective amendment, overrides the effect of Section 9 (1) (vii) (b)
exclusion. While no doubt, the explanation is deemed to be clarificatory and
for a good measure retrospective at that, nevertheless there is nothing in its
wording which overrides the exclusion of payments made under Section
9(1)(vii)(b). The Supreme Court clarified this in G.V.K Industries (supra):
ITA 95/2005 Page 24
"22. The principal provision is Clause (b) of Section 9(1)(vii) of the
Act. The said provision carves out an exception. The exception carved
out in the latter part of clause (b) applies to a situation when fee is
payable in respect of services utilized for business or profession
carried out by an Indian payer outside India or for the purpose of
making or earning of income by the Indian assessee i.e. the payer, for
the purpose of making or earning any income from a source outside
India. On a studied scrutiny of the said Clause, it becomes clear that
it lays down the principle what is basically known as the "source
rule", that is, income of the recipient to be charged or chargeable in
the country where the source of payment is located, to clarify, where
the payer is located. The Clause further mandates and requires that
the services should be utilized in India.
************* **********
***********
24. The two principles, namely, "Situs of residence" and "Situs of
source of income" have witnessed divergence and difference in the
field of international taxation. The principle "Residence State
Taxation" gives primacy to the country of the residency of the
assessee. This principle postulates taxation of world-wide income and
world-wide capital in the country of residence of the natural or
juridical person. The "Source State Taxation" rule confers primacy to
right to tax to a particular income or transaction to the State/nation
where the source of the said income is located. The second rule, as is
understood, is transaction specific. To elaborate, the source State
seeks to tax the transaction or capital within its territory even when
the income benefits belongs to a non-residence person, that is, a
person resident in another country. The aforesaid principle sometimes
is given a different name, that is, the territorial principle. It is apt to
state here that the residence based taxation is perceived as benefiting
the developed or capital exporting countries whereas the source
based taxation protects and is regarded as more beneficial to capital
importing countries, that is, developing nations. Here comes the
principle of nexus, for the nexus of the right to tax is in the source
rule. It is founded on the right of a country to tax the income earned
from a source located in the said State, irrespective of the country of
ITA 95/2005 Page 25
the residence of the recipient. It is well settled that the source based
taxation is accepted and applied in international taxation law.
************* **********
**********
28. Coming to the instant case, it is evident that fee which has been
named as "success fee" by the assessee has been paid to the NRC. It is
to be seen whether the payment made to the non-resident would be
covered under the expression "fee for technical service" as contained
in Explanation (2) to Section 9(1)(vii) of the Act. The said expression
means any consideration, whether lumpsum or periodical in
rendering managerial, technical or consultancy services. It excludes
consideration paid for any construction, assembling, mining or like
projects undertaken by the non-resident that is the recipient or
consideration which would be taxable in the hands of the non-
recipient or non-resident under the head "salaries". In the case at
hand, the said exceptions are not attracted. What is required to be
scrutinized is that the appellant had intended and desired to utilize
expert services of qualified and experience professional who could
prepare a scheme for raising requisite finances and tie-up loans for
the power projects. As the company did not find any professional in
India, it had approached the consultant NRC located in Switzerland,
who offered their services. Their services rendered included, inter
alia, financial structure and security package to be offered to the
lender, study of various lending alternatives for the local and foreign
borrowings, making assessment of expert credit agencies world-wide
and obtaining commercial bank support on the most competitive
terms, assisting the appellant company in loan negotiations and
documentations with the lenders, structuring, negotiating and closing
financing for the project in a coordinated and expeditious manner.
********** ************* ****
34. In the case at hand, we are concerned with the expression
"consultancy services". In this regard, a reference to the decision by
the authority for advance ruling In Re. P.No. 28 of 1999[5], would be
applicable. The observations therein read as follows:
"By technical services, we mean in this context services
requiring expertise in technology. By consultancy services, we
mean in this context advisory services. The category of
ITA 95/2005 Page 26
technical and consultancy services are to some extent
overlapping because a consultancy service could also be
technical service. However, the category of consultancy
services also includes an advisory service, whether or not
expertise in technology is required to perform it."
35. In this context, a reference to the decision in C.I.T. V. Bharti
Cellular Limited and others 2009 (319) ITR 139 would be apposite. In
the said case, while dealing with the concept of "consultancy
services", the High Court of Delhi has observed thus:
"Similarly, the word "consultancy" has been defined in the said
Dictionary as "the work or position of a consultant; a
department of consultants." "Consultant" itself has been
defined, inter alia, as "a person who gives professional advice
or services in a specialized field." It is obvious that the word
"consultant" is a derivative of the word "consult" which entails
deliberations, consideration, conferring with someone,
conferring about or upon a matter. Consult has also been
defined in the said Dictionary as "ask advice for, seek counsel
or a professional opinion from; refer to (a source of
information); seek permission or approval from for a proposed
action". It is obvious that the service of consultancy also
necessarily entails human intervention. The consultant, who
provides the consultancy service, has to be a human being. A
machine cannot be regarded as a consultant."
36. In this context, we may fruitfully refer to the dictionary meaning of
'consultation' in Black's Law Dictionary, Eighth Edition. The word
'consultation' has been defined as an act of asking the advice or
opinion of someone (such as a lawyer). It means a meeting in which a
party consults or confers and eventually it results in human
interaction that leads to rendering of advice."
Thus, it is evident that the "source" rule, i.e the purpose of the expenditure
incurred, i.e for earning the income from a source in India, is applicable.
This was clearly stated by the Supreme Court, when it later held that:
ITA 95/2005 Page 27
"The exception carved out in the latter part of clause (b) applies to a
situation when fee is payable in respect of services utilized for
business or profession carried out by an Indian payer outside India or
for the purpose of making or earning of income by the Indian assessee
i.e. the payer, for the purpose of making or earning any income from a
source outside India. On a studied scrutiny of the said Clause, it
becomes clear that it lays down the principle what is basically known
as the "source rule", that is, income of the recipient to be charged or
chargeable in the country where the source of payment is located, to
clarify, where the payer is located. The Clause further mandates and
requires that the services should be utilized in India."
25. In the present case, the ITAT held that the overwhelming or
predominant nature of the assessees activity was to wet -lease the aircraft to
LCAG, a foreign company. The operations were abroad, and the expenses
towards maintenance and repairs payments were for the purpose of earning
abroad. In these circumstances, the ITATs factual findings cannot be
faulted. The question of law is answered in favour of the assessee and
against the revenue.
26. For the foregoing reasons, the revenues appeal fails and is di smissed
without any order as to costs.
S. RAVINDRA BHAT
(JUDGE)
R.K. GAUBA
(JUDGE)
MAY 27, 2015
ITA 95/2005 Page 28
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