IN THE SUPREME COURT OF INDIA
CIVIL APPELLATE JURISDICTION
CIVIL APPEAL NO. 7796 OF 1997
GVK Industries Ltd. & Anr. ... Appellants
Versus
The Income Tax Officer & Anr. ... Respondents
J U D G M E N T
Dipak Misra, J.
The appellant No. 1 is a company incorporated under the
Companies Act, 1956 for the purpose of setting up a 235 MW Gas based
power project at Jegurupadu, Rajahmundry, Andhra Pradesh at an
estimated cost of Rs.839 crores and the appellant No. 2 is a director
of the company. The main object of the appellant company is to
generate and sell electricity.
2. With the intention to utilize the expert services of qualified
and experienced professionals who could prepare a scheme for raising
the required finance and tie up the required loan, it sought services
of a consultant and eventually entered into an agreement with ABB -
Projects & Trade Finance International Ltd., Zurich, Switzerland,
(hereinafter referred to as "Non-Resident Company/NRC"). The NRC,
having regard to the requirements of the appellant-company offered its
services as financial advisor to its project from July 08, 1993.
Those services included, inter alia, financial structure and security
package to be offered to the lender, making an assessment of export
credit agencies world-wide and obtaining commercial bank support on
the most competitive terms, assisting the appellant loan negotiations
and documentation with lenders and structuring, negotiating and
closing the financing for the project in a coordinated and expeditious
manner. For its services the NRC was to be paid, what is termed as,
"success fee" at the rate of 0.75% of the total debt financing. The
said proposal was placed before the Board meeting of the company on
August 21, 1993 and the Board of Directors approved the appointment of
the NRC and advised that it be involved in the proposed public issue
of share by the company. The NRC rendered professional services from
Zurich by correspondence as to how to execute the documents for
sanction of loan by the financial institutions within and outside the
country. With advice of NRC the appellant-company approached the
Indian Financial Institutions with the Industrial Development Bank of
India (IDBI) acting as the Lead Financier for its Rupee loan
requirement and for a part of its foreign currency loan requirement it
approached International Finance Corporation (IFC), Washington DC,
USA. After successful rendering of services the NRC sent invoice to
the appellant-company for payment of success fee amount i.e., US
$.17,15,476.16 (Rs.5.4 Crores).
3. As the facts would unfurl after the receipt of the said invoice
the appellant-company approached the concerned income tax officer, the
first respondent herein, for issuing a 'No Objection Certificate' to
remit the said sum duly pointing out that the NRC had no place of
business in India; that all the services rendered by it were from
outside India; and that no part of success fee could be said to arise
or accrue or deemed to arise or accrue in India attracting the
liability under the Income-tax Act, 1961 (for brevity, 'the Act') by
the NRC. It was also stated as the NRC had no business connection
Section 9(1)(i) is not attracted and further as NRC had rendered no
technical services Section 9(1)(vii) is also no attracted. The first
respondent scanning the application filed by the company refused to
issue 'No Objection Certificate' by his order dated September 27,
1994. Being dissatisfied with the said order passed by the first
respondent the appellant-company preferred a revision petition before
the commissioner of Income-tax, Hyderabad, the second respondent
herein, under Section 264 of the Act. On March 21, 1995 the second
respondent permitted the appellant-company to remit the said sum to
the NRC by furnishing a bank guarantee for the amount of tax. The
company took steps to comply with the said order but afterwards on
October 25,1995 the revisional authority revoked the earlier order and
directed the company to deduct tax and pay the same to the credit of
the Central Government as a condition precedent for issuance of the
'No Objection Certificate'. Thus, the order passed by the first
respondent was affirmed and resultantly the revision petition was
dismissed.
4. The non-success in revision compelled the company to approach
the High Court in W.P. No. 6866 of 1995 for issue of writ of
certiorari for quashing of the orders passed by the Income-tax officer
and that of by the revisional authority. In the writ petition, the
stand and stance put forth before the authorities were reiterated.
5. On behalf of the revenue a counter affidavit was filed
contending, inter alia, that the NRC was very actively associated not
only in arranging loan but also in providing various services which
fall within the ambit of both managerial as well as consultancy
services.
6. A reference was made to the letter dated July 8, 1993 wherefrom
it is evident that NRC is a financial advisor with a worldwide
experience and has been engaged in India and requested that it be
appointed as "financial consultant" for the project. The company
responded by appointing the NRC as the financial advisor vide its
letter dated 2.8.1994. On behalf of the revenue, the proceedings of
the Board of Directors meeting was highlighted stating that they
disclosed that the NRC was appointed not only to arrange for the loan
but also to render several other financial and general services and
also to involve itself in the public issue of the company and on that
bedrock it was urged that it squarely falls within the ambit of
Section 9(1)(vii)(b) of the Act. It was also averred that NRC is a
financial segment of the ABB which is participating in the equity of
the appellant company besides IFC, Washington. The further stand of
the revenue was that Section 5(2) read with Section 9(1)(i)(vii)(b)
will apply to the remittance to be made by the company to the NRC as
the income would be deemed to have accrued or arisen in India and
hence, the Indian company was liable to deduct tax at the prescribed
rate before remitting any money to the NRC. The order passed by the
authorities below were supported on the foundation that there is a
business connection between the NRC with the company in India and the
voluminous correspondence between the two wings discloses the said
connection. It was also contended that the services rendered by the
NRC were not a one time affair as alleged, for the company itself had
acted on behalf of the NRC for processing, negotiating and obtaining
loans from IDBI India and IFC, Washington. Emphasis was laid on the
fact that the company had contracted the NRC not only for the limited
purpose of getting loan but also for the further participation in its
business activity which was evincible from the correspondence made
between the two and, therefore, the income will accrue or deemed to
have accrued or arisen to the NRC in India within the provisions of
the Act. Justifying the order of revocation by the Commissioner of
Income-tax, it was set forth that order dated 21.03.1995 was only an
interim order and the final order came to be passed on 25.10.1995 by
which the revision was dismissed. It was asserted by the revenue that
the services of the NRC, as demonstrable from the material brought on
record, was rendered within India and, therefore, the company is
obliged in law to deduct income-tax before remitting "success fee" to
the NRC. On this premise, the denial of 'No Objection Certificate'
(NOC) was sought to be justified.
7. A rejoinder affidavit was filed by the appellant company
asseverating that the NRC is an independent unit and is, in a way,
subsidiarised by ABB. That apart, merely because expert advice was
obtained, it could not be said that it pursued the application for
loan/financial assistance on behalf of NRC and further the advisory
services were rendered from outside India. The stand of the revenue
that there has been an admission by the company to the effect that
there was business connection with the NRC by the company, was
controverted. It was put forth that the company was always the
principal directly concerned with the making of application for
financial assistance for the project and pursuing the same; that the
NRC did not have any office or establishment in India at any relevant
point of time; that it operated from Zurich; that there was no
business connection between the company and the NRC; and that the
success fee did not accrue or arise to the NRC in India and hence, no
income is deemed to have accrued or arisen to NRC in India. In
addition to the aforesaid it was urged Section 9(1)(i) and Section
9(1)(vii) have to be read together and in that case the stand of the
revenue was absolutely unjustified and assuming Section 9(1)(vii) of
the Act is read in isolation, the plain interpretation could not be
applicable regard being had to the nature of service rendered by NRC.
It was also pleaded that merely because the amount of success fee was
paid by the appellant-company to NRC in India for the services
rendered from outside India, the income of NRC would not deemed to
have accrued or arisen in India.
8. The High Court framed the following two issues for
consideration:
"(1) Whether 'success fee' payable by the petitioner-company to
the NRC or any portion thereof is chargeable under the
provisions the Act; and
(2) Whether the petitioner-company is entitled to 'No
Objection Certificate'."
9. The High Court referred to clause (b) of sub-section 2 of
Section 5 and Section 9 of the Act and adverted to the expression all
income accruing or arising, whether directly or indirectly, through or
from any business connection in India, or through or from any property
in India, or through from any asset or source of income in India or
through the transfer of a capital asset situate in India and
thereafter referred to Section 163(1)(b) which uses the expression
"business connection" and thereafter referring to various authorities,
culled out the principles as to what the expression "business
connection" conveys. It observed that expression "business
connection" is too wide to admit of any precise definition though it
has some well known attributes; that whether there is a business
connection between an Indian company and a non-resident company is a
mixed question of fact and law which is to be determined on the facts
and circumstances of each case; that the essence of "business
connection" is existence of close, real, intimate relationship and
commonness of interest between the NRC and the Indian person; that in
a case where there is control of management or finances or substantial
holding of equity shares or sharing of profits by the NRC of the
Indian company/person, the existence of close/intimate relationship
stand substantiated; and to constitute business connection, there must
be continuity of activity or operation of the NRC with the Indian
company/person and a stray or an isolated transaction is not enough to
establish a business connection.
10. After culling out the principles, the High Court referred to the
contents of the correspondence, the nature and extent of services
which the NRC had undertaken under the agreement, the resolution
passed by the Board of Directors which had perused the letter dated
July 8, 1993 addressed by the NRC stipulating the scope of services to
be undertaken by NRC; the decisions of the Board to pay a fee to NRC
and came to hold thus:
"On a careful reading of the letter of proposal of the NRC and
the extract of resolution of the Board of Directors of the
petitioner-company, it is clear to us that it was no part of the
services to be provided by the NRC to manage public issue in
India to correspond with various agencies to secure loan for the
petitioner-company, to negotiate the terms on which loan should
be obtained or to draft document for it. The NRC has only to
develop a comprehensive financial model, tie up the rupee/foreign
currency loan requirements of the project, assess export credit
agencies worldwide and obtain commercial bank support, assist the
petitioner-company in loan negotiations and documentation with
the lender. It appears to us that the service to be rendered by
the NRC is analogous to draw up a plan for the petitioner-company
to reach the required destination indicating roads and highways,
the curves and the turns; it does not contemplate taking the
petitioner-company to the destination by the NRC. Once the NRC
has prepared the scheme and given necessary advice and assistance
to the petitioner-company for obtaining loan, the responsibility
of the NRC is over. It is for the petitioner-company to proceed
on the suggested lines and obtain loan from Indian or foreign
agencies. On the petitioner-company obtaining loan, the NRC
becomes entitled to 'success fees'."
11. The High Court scanned the letters with due consideration and
opined that the business connection between the petitioner company and
the NRC had not been established. Thereafter, the writ court adverted
to the proposition whether success fee could fall within clause
(vii)(b) of Section 9(1) of the Act. Interpreting the said provision,
the High Court opined that:
"Thus from a combined reading of clause (vii) (b) Explanation (2)
it becomes clear that any consideration, whether lump sum or
otherwise, paid by a person who is a resident in India to a non-
resident for running any managerial or technical or consultancy
service, would be the income by way of fees for technical service
and would, therefore, be within the ambit of "income deemed to
accrue or arise in India". If this be the net of taxation under
Section 9 (1) (vii) (b), then 'success fee', which is payable by
the petitioner-company to the NRC as fee for technical service
would be chargeable to income tax thereunder. The Income-tax
officer, in the impugned order, held that the services offered by
the NRC fell within the ambit of both managerial and consultancy
services. That order of Income-tax officer found favour by the
Commissioner in revision. In the view we have expressed above,
we are inclined to confirm the impugned order."
12. At this juncture, it is necessary to note that a contention was
advanced before the High Court by the assessee that the NRC did not
render any technical or consultancy service to the company but only
rendered advise in connection with payment of loan by it and hence, it
would not amount to technical or consultancy service within the
meaning of Section 9(1)(vii)(b) of the Act. While not accepting the
said submission, the High Court observed that for the purposes of
attracting the said provision, the business of the company cannot be
divided into water-tight compartments like fire, generation of power,
plant and machinery, management, etc. and to hold that managerial and
technical and consultancy service relate to management, generation of
power and plant and machinery, but not to finance. Elaborating
further, the High Court observed that advice given to procure loan to
strengthen finances may come within the compartment of technical or
consultancy service and "success fee" would thereby come within the
scope of technical service within the ambit of Section 9(1)(vii)(b) of
the Act. Being of this view, the High Court opined the assessee was
not entitled to the "No Objection Certificate".
13. Be it stated, the constitutional validity of Section
9(1)(vii)(b) of the Act was challenged on the ground of legislative
competence and violation of Article 14 of the Constitution. The Court
referred to the earlier Division Bench decision in Electrical
Corporation of India Ltd. V. C.I.T. rendered in W.P. No. 105/1987 on
March 24, 1987 and also took note of the fact that the said case was
quoted with approval in Electrical Corporation of India Ltd. V.
C.I.T.[1] In the ultimate eventuate, High Court rejected all the
contentions advanced by the assessee-company and dismissed the writ
petition.
14. Being aggrieved, the petitioner company approached this Court.
When the matter came up for consideration before a two-Judge Bench of
this Court, which taking note of the far-reaching issues of
constitutional purport and the fact that they were earlier referred to
in the case of Electrical Corporation of India Ltd. (supra), which was
ultimately withdrawn, it, by order dated 28.11.2000, referred the
instant matter to a larger Bench. On 13.7.2010, the matter again came
up for consideration before a three-Judge Bench and vide its order of
the same date, the matter was referred to the Constitution Bench,
which answered the reference as per decision on 1.3.2011 reported in
(2011) 4 SCC 36. The issue before the Constitution Bench stated by the
Court is thus:
"It is necessary for purposes of clarity that a brief recounting
be undertaken at this stage itself as to what was conclusively
decided in ECIL and what was referred to a Constitutional Bench.
After conclusively determining that clauses (1) and (2) of
Article 245, read together, impose a requirement that the laws
made by Parliament should bear a nexus with India, the three-
Judge Bench in ECIL asked that a Constitutional Bench be
constituted to consider whether the ingredients of the impugned
provision i.e. Section 9(1)(vii) of the Income Tax Act (1961)
indicate such a nexus."
15. Before the Constitution Bench the appellant withdrew its
challenge to the constitutional validity of Section 9(1)(vii)(b) of
the Act and elected to proceed on the factual matrix as to the
applicability of the said provision. However, as the learned Attorney
General pressed upon for reconsideration, the decision in three-Judge
Bench in ECIL case, the larger Bench considered the validity of the
requirement of a relationship to or nexus with territory of India as a
limitation on the powers of Parliament to enact laws pursuant to
clause (1) of Article 245 of the Constitution. The Court adverted to
the ratio in ECIL, took note of propositions of the learned Attorney
General and the principles relating to interpretation of the
Constitution, textual analysis of Article 245, analysed the
constitutional topological space of Article 245 and the wider
structural analysis of Article 245 in the context of Article 260 and
came to hold thus:
"It would appear that the concerns of the learned Attorney
General may have been more with whether the ratio in ECIL could
lead to a reading down of the legislative powers granted to
Parliament by Article 245. A thorough textual analysis, combined
with wider analysis of constitutional topology, structure, values
and scheme has revealed a much more intricately provisioned set
of powers to Parliament. Indeed, when all the powers necessary
for an organ of the State to perform its role completely and to
effectuate the constitutional mandate, can be gathered from the
text of the Constitution, properly analysed and understood in the
wider context in which it is located, why should such
unnecessarily imprecise arrogation of powers be claimed? To give
in to such demands, would be to run the risk of importing
meanings and possibilities unsupportable by the entire text and
structure of the Constitution. Invariably such demands are made
in seeking to deal with external affairs, or with some claimed
grave danger or a serious law and order problem, external or
internal, to or in India. In such circumstances, it is even more
important that courts be extra careful."
16. Thereafter, the Court reiterated the two questions it had set
out in the beginning. The first question reads thus:
"(1) Is Parliament constitutionally restricted from enacting
legislation with respect to extra-territorial aspects or causes
that do not have, nor expected to have any, direct or indirect,
tangible or intangible impact(s) on or effect(s) in or
consequences for:
(a) the territory of India, or any part of India; or
(b) the interests of, welfare of, well-being of, or security of
inhabitants of India, and Indians?"
Answering the same, the Court observed:
"The answer to the above would be yes. However, Parliament may
exercise its legislative powers with respect to extra-territorial
aspects or causes-events, things, phenomena (howsoever
commonplace they may be), resources, actions or transactions, and
the like-that occur, arise or exist or may be expected to do so,
naturally or on account of some human agency, in the social,
political, economic, cultural, biological, environmental or
physical spheres outside the territory of India, and seek to
control, modulate, mitigate [pic]or transform the effects of such
extra-territorial aspects or causes, or in appropriate cases,
eliminate or engender such extra-territorial aspects or causes,
only when such extra-territorial aspects or causes have, or are
expected to have, some impact on, or effect in, or consequences
for: (a) the territory of India, or any part of India; or (b) the
interests of, welfare of, well-being of, or security of
inhabitants of India, and Indians."
And thereafter:
"Whether a particular law enacted by Parliament does show such a
real connection, or expected real connection, between the extra-
territorial aspect or cause and something in India or related to
India and Indians, in terms of impact, effect or consequence,
would be a mixed matter of facts and of law. Obviously, where
Parliament itself posits a degree of such relationship, beyond
the constitutional requirement that it be real and not fanciful,
then the courts would have to enforce such a requirement in the
operation of the law as a matter of that law itself, and not of
the Constitution."
17. The second question that was posed by the Constitution Bench is
as follows:
"(2) Does Parliament have the powers to legislate "for" any
territory, other than the territory of India or any part of it?"
The aforesaid question was answered thus:
"The answer to the above would be no. It is obvious that
Parliament is empowered to make laws with respect to aspects or
causes that occur, arise or exist, or may be expected to do so,
within the territory of India, and also with respect to extra-
territorial aspects or causes that have an impact on or nexus
with India as explained above in the answer to Question 1 above.
Such laws would fall within the meaning, purport and ambit of the
grant of powers to Parliament to make laws "for the whole or any
part of the territory of India", and they may not be invalidated
on the ground that they may require extra-territorial operation.
Any laws enacted by Parliament with respect to extra-territorial
aspects or causes that have no impact on or nexus with India
would be ultra vires, as answered in response to Question 1
above, and would be laws made "for" a foreign territory."
After the reference was answered, the matter was directed to be
listed before the appropriate Bench.
18. We have heard Mr. U.A. Rana, learned counsel for the appellants
and Mr. Arijit Prasad, learned counsel for the respondents.
19. At the very outset, it is necessary to mention as the challenge
to the constitutional validity of the provision has been withdrawn, and
the same accordingly has not been gone into by the Constitution Bench,
there is no necessity to dwell upon the same. The crux of the matter
is whether, in the obtaining factual matrix, the High Court was
justified in concurring with the view expressed by the revisional
authority that the assessee-company was not entitled to "No Objection
Certificate" under the Act as it was under the obligation to deduct the
tax at source pertaining to payment to the NRC as the character of
success fee was substantiated by the revenue to put in the ambit and
sweep of Section 9(1)(vii)(b) of the Act.
20. At this juncture, it is demonstrable that NRC is a Non-Resident
Company and it does not have a place of business in India. The revenue
has not advanced a case that the income had actually arisen or received
by the NRC in India. The High Court has recorded the payment or
receipt paid by the appellant to the NRC as success fee would not be
taxable under Section 9(1)(i) of the Act as the transaction/activity
did not have any business connection. The conclusion of the High Court
in this regard is absolutely defensible in view of the principles
stated in C.I.T. V. Aggarwal and Company[2], C.I.T. V. TRC[3] and
Birendra Prasad Rai V. ITC[4]. That being the position, the singular
question that remains to be answered is whether the payment or receipt
paid by the appellant to NRC as success fee would be deemed to be
taxable in India under Section 9(1)(vii) of the Act. As the factual
matrix would show, the appellant has not invoked Double Taxation
Avoidance Agreement between India and Switzerland. That being not
there, we are only concerned whether the "success fee" as termed by the
assessee is "Fee for technical service" as enjoined under Section
9(1)(vii) of the Act. The said provision reads as follows:
"9. Income deemed to accrue or arise in India - (1) The
following income shall be deemed to accrue or arise in India --
(vii) income by way of fees for technical services payable by-
(a) the Government ; or
(b) a person who is a resident, 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 ; or
(c) a person who is a non-resident, where the fees are
payable in respect of services utilised in a business or
profession carried on by such person in India or for the
purposes of making or earning any income from any source in
India :
[Provided that nothing contained in this clause shall
apply in relation to any income by way of fees for technical
services payable in pursuance of an agreement made before
the 1st day of April, 1976, and approved by the Central
Government.]
[Explanation 1.-For the purposes of the foregoing proviso, an
agreement made on or after the 1st day of April, 1976, shall be
deemed to have been made before that date if the agreement is
made in accordance with proposals approved by the Central
Government before that date.]
[Explanation 2.]-For the purposes of this clause, "fees for
technical services" means any consideration (including any lump
sum consideration) for the rendering of any 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 or consideration which would be income of the
recipient chargeable under the head "Salaries".]
21. Explanation to the Section 9(2) was substituted by the Finance
Act 2010 with retrospective effect from 1.6.1976. Prior to the said
substitution, another Explanation had been inserted by the Finance Act,
2007 with retrospective effect from 1.6.1976. The said Explanations
read as under:
"As amended by Finance Act, 2010
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.]
As amended by Finance Act, 2007
Explanation.-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."
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.
23. Having stated about the "source rule", it is necessary to
appropriately appreciate how the concept has developed. At the time of
formation of "League of Nations" at the end of 1920, it comprised of
only 27 countries dominated by the European States and the United
States of America. The United Nations that was formed after the Second
World War, initially had 51 members. Presently, it has 193 members.
With the efflux of time, there has been birth of nation States which
enjoy political independence and that has led to cross-border and
international trade. The State trade eventually has culminated in
formulation of principles pertaining to international taxation
jurisdiction. It needs no special emphasis to state that the said
taxation principles are premised to promote international trade and to
allocate taxation between the States. These rules help and further
endeavour to curtail possibility of double taxation, tax discrimination
and also to adjudicate resort to abusive tax avoidance or tax evasion
practices. The nation States, in certain situations, resort to
principle of "tax mitigation" and in order to protect their citizens,
grant benefit of tax abroad under the domestic legislation under the
bilateral agreements.
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
the residence of the recipient. It is well settled that the source
based taxation is accepted and applied in international taxation law.
25. The two principles that we have mentioned hereinabove, are also
applied in domestic law in various countries. The source rule is in
consonance with the nexus theory and does not fall foul of the said
doctrine on the ground of extra-territorial operation. The doctrine of
source rule has been explained as a country where the income or wealth
is physically or economically produced. [See League of Nations, Report
on Double Taxation by Bruins, Einaudi, Saligman and Sir Josiah Stan
(1923)]. Appreciated on the aforesaid principle, it would apply where
business activity is wholly or partly performed is a source State, as a
logical corollary, the State concept would also justifiably include the
country where the commercial need for the product originated, that is,
for example, where the consultancy is utilized.
26. From the aforesaid, it is quite vivid that the concept of
income source is multifaceted and has the potentiality to take
different forms [See Klans Vogel, World-wide V. Source Taxation of
Income - Review and Revision of Arguments (1988)]. The said rule has
been justified by Arvid A. Skaar in Permanent Establishment; Erosion of
Tax Treaty Principle on the ground that profits of business enterprise
are mainly the yield of an activity, for capital is profitable to the
extent that it is actively utilised in a profitable manner. To this
extent, neither the activity of business enterprise nor the capital
made, depends on residence.
27. The purpose of adverting to these aspects is only to highlight
that the source rule has been accepted by them in the UN Commentaries
and the Organisation of Economic Corporation and Development (OECD)
Commentaries. It is well known that what is prohibited by
international taxation law is imposition of sovereign act of a State on
a sovereign territory. This principle of formal territoriality applies
in particular, to acts intended to enforce internal legal provisions
abroad. [See the Introduction in Klaus Vogel on Double Taxation
Convention, South Asean, Reprint Edition (2007)]. Therefore, deduction
of tax at source when made applicable, it has to be ensured that this
principle is not violated.
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.
29. In this context, it would be appropriate to reproduce the
letter dated 8.7.1993 addressed by the NRC. It reads as follows:
"We propose the following scope of services to be performed by
ABB PTF:
Assisting GVK Industries Limited ("GVK") in putting together the
financial structure and security package to be offered to the
lenders;
Evaluating the pros and cons of various lending alternatives,
both for the local and the foreign borrowings;
Developing a comprehensive financial model to evaluate the
project and to perform various sensivity studies;
Preparing a preliminary information Memorandum to be used as the
basis for placing the foreign and local debt;
Accessing Export Credit Agencies world wide obtaining commercial
bank support on the most comprehensive terms;
Assisting GVK in loan negotiations and documentation with
lendors; and
Structuring, negotiating and closing the financing for this
project in a coordinated and expeditious manner.
We propose a compensation structure based only on success. As
an exception, ABB PTF does not propose either any retainers or
any reimbursement for travel and other expenses incurred by ABB
PTF.
The success fee will be 0.75% of the total debt, payable at
financial closing."
30. The said letter was placed before the Board of Directors of the
appellant company in its meeting held on August 21, 1993. The relevant
part of the resolution passed by the Board is extracted hereinbelow:
".....It was explained to the Directors that ABB-PTF's scope of
service for the project include:
Developing a comprehensive financial model;
Tying up the rupee/foreign currency loan requirements of the
project;
Assessing Export Credit Agencies worldwide and obtaining
commercial banks support on the most competitive terms;
Assisting GVK in loan negotiations and documentation with
lenders.
For the above scope of service ABB PTF would be paid a fee of
0.75% of the loan amount which is payable only on successful
financial closing. The Directors while approving this
arrangement, advised that ABB-PTF should also be involved in the
public issue of the company."
31. From the aforesaid two documents, it is clear as crystal that
the obligation of the NRC was to:
(i) Develop comprehensive financial model to tie-up the rupee and
foreign currency loan requirements of the project.
(ii) Assist expert credit agencies world-wide and obtain commercial
bank support on the most competitive terms.
(iii) Assist the appellant company in loan negotiations and
documentation with the lenders.
32. Pursuant to the aforesaid exercises carried out by the NRC, the
company was successful in availing loan/financial assistance in India
from the Industrial Development Bank of India (IDBI) which acted as a
lead financier for the rupee loan requirement. For foreign currency
loan requirement, the appellant approached International Finance
Corporation, Washington D.C., USA and was successful. In this
backdrop, "success fee" of Rs.5.4 crores was paid to the NRC.
33. In this factual score, the expression, managerial, technical or
consultancy service, are to be appreciated. The said expressions have
not been defined in the Act, and, therefore, it is obligatory on our
part to examine how the said expressions are used and understood by the
persons engaged in business. The general and common usage of the said
words has to be understood at common parlance.
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 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[6], 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.
37. As the factual matrix in the case at hand, would exposit the NRC
had acted as a consultant. It had the skill, acumen and knowledge in
the specialized field i.e. preparation of a scheme for required
finances and to tie-up required loans. The nature of activities
undertaken by the NRC has earlier been referred to by us. The nature
of service referred by the NRC, can be said with certainty would
come within the ambit and sweep of the term 'consultancy service' and,
therefore, it has been rightly held that the tax at source should have
been deducted as the amount paid as fee could be taxable under the
head 'fee for technical service'. Once the tax is payable paid the
grant of 'No Objection Certificate' was not legally permissible.
Ergo, the judgment and order passed by the High Court are absolutely
impregnable.
38. Consequently, the appeal, being devoid of merit, stands
dismissed. However, in the facts and circumstances of the case there
shall be no order as to costs.
..........................................................J.
[DIPAK MISRA]
.........................................................J.
[SUDHANSU JYOTI MUKHOPADHAYA]
NEW DELHI
FEBRUARY 18, 2015.
-----------------------
[1] (1990) 183 ITR 43 (SC); [(1989) Supp. 2 SCC 642]
[2] (1965) 56 ITR 20
[3] (1987) 166 ITR 1993
[4] (1981) 129 ITR 295
[5] (1999) 242 ITR 280
[6] (2009) 319 ITR 139
CIVIL APPELLATE JURISDICTION
CIVIL APPEAL NO. 7796 OF 1997
GVK Industries Ltd. & Anr. ... Appellants
Versus
The Income Tax Officer & Anr. ... Respondents
J U D G M E N T
Dipak Misra, J.
The appellant No. 1 is a company incorporated under the
Companies Act, 1956 for the purpose of setting up a 235 MW Gas based
power project at Jegurupadu, Rajahmundry, Andhra Pradesh at an
estimated cost of Rs.839 crores and the appellant No. 2 is a director
of the company. The main object of the appellant company is to
generate and sell electricity.
2. With the intention to utilize the expert services of qualified
and experienced professionals who could prepare a scheme for raising
the required finance and tie up the required loan, it sought services
of a consultant and eventually entered into an agreement with ABB -
Projects & Trade Finance International Ltd., Zurich, Switzerland,
(hereinafter referred to as "Non-Resident Company/NRC"). The NRC,
having regard to the requirements of the appellant-company offered its
services as financial advisor to its project from July 08, 1993.
Those services included, inter alia, financial structure and security
package to be offered to the lender, making an assessment of export
credit agencies world-wide and obtaining commercial bank support on
the most competitive terms, assisting the appellant loan negotiations
and documentation with lenders and structuring, negotiating and
closing the financing for the project in a coordinated and expeditious
manner. For its services the NRC was to be paid, what is termed as,
"success fee" at the rate of 0.75% of the total debt financing. The
said proposal was placed before the Board meeting of the company on
August 21, 1993 and the Board of Directors approved the appointment of
the NRC and advised that it be involved in the proposed public issue
of share by the company. The NRC rendered professional services from
Zurich by correspondence as to how to execute the documents for
sanction of loan by the financial institutions within and outside the
country. With advice of NRC the appellant-company approached the
Indian Financial Institutions with the Industrial Development Bank of
India (IDBI) acting as the Lead Financier for its Rupee loan
requirement and for a part of its foreign currency loan requirement it
approached International Finance Corporation (IFC), Washington DC,
USA. After successful rendering of services the NRC sent invoice to
the appellant-company for payment of success fee amount i.e., US
$.17,15,476.16 (Rs.5.4 Crores).
3. As the facts would unfurl after the receipt of the said invoice
the appellant-company approached the concerned income tax officer, the
first respondent herein, for issuing a 'No Objection Certificate' to
remit the said sum duly pointing out that the NRC had no place of
business in India; that all the services rendered by it were from
outside India; and that no part of success fee could be said to arise
or accrue or deemed to arise or accrue in India attracting the
liability under the Income-tax Act, 1961 (for brevity, 'the Act') by
the NRC. It was also stated as the NRC had no business connection
Section 9(1)(i) is not attracted and further as NRC had rendered no
technical services Section 9(1)(vii) is also no attracted. The first
respondent scanning the application filed by the company refused to
issue 'No Objection Certificate' by his order dated September 27,
1994. Being dissatisfied with the said order passed by the first
respondent the appellant-company preferred a revision petition before
the commissioner of Income-tax, Hyderabad, the second respondent
herein, under Section 264 of the Act. On March 21, 1995 the second
respondent permitted the appellant-company to remit the said sum to
the NRC by furnishing a bank guarantee for the amount of tax. The
company took steps to comply with the said order but afterwards on
October 25,1995 the revisional authority revoked the earlier order and
directed the company to deduct tax and pay the same to the credit of
the Central Government as a condition precedent for issuance of the
'No Objection Certificate'. Thus, the order passed by the first
respondent was affirmed and resultantly the revision petition was
dismissed.
4. The non-success in revision compelled the company to approach
the High Court in W.P. No. 6866 of 1995 for issue of writ of
certiorari for quashing of the orders passed by the Income-tax officer
and that of by the revisional authority. In the writ petition, the
stand and stance put forth before the authorities were reiterated.
5. On behalf of the revenue a counter affidavit was filed
contending, inter alia, that the NRC was very actively associated not
only in arranging loan but also in providing various services which
fall within the ambit of both managerial as well as consultancy
services.
6. A reference was made to the letter dated July 8, 1993 wherefrom
it is evident that NRC is a financial advisor with a worldwide
experience and has been engaged in India and requested that it be
appointed as "financial consultant" for the project. The company
responded by appointing the NRC as the financial advisor vide its
letter dated 2.8.1994. On behalf of the revenue, the proceedings of
the Board of Directors meeting was highlighted stating that they
disclosed that the NRC was appointed not only to arrange for the loan
but also to render several other financial and general services and
also to involve itself in the public issue of the company and on that
bedrock it was urged that it squarely falls within the ambit of
Section 9(1)(vii)(b) of the Act. It was also averred that NRC is a
financial segment of the ABB which is participating in the equity of
the appellant company besides IFC, Washington. The further stand of
the revenue was that Section 5(2) read with Section 9(1)(i)(vii)(b)
will apply to the remittance to be made by the company to the NRC as
the income would be deemed to have accrued or arisen in India and
hence, the Indian company was liable to deduct tax at the prescribed
rate before remitting any money to the NRC. The order passed by the
authorities below were supported on the foundation that there is a
business connection between the NRC with the company in India and the
voluminous correspondence between the two wings discloses the said
connection. It was also contended that the services rendered by the
NRC were not a one time affair as alleged, for the company itself had
acted on behalf of the NRC for processing, negotiating and obtaining
loans from IDBI India and IFC, Washington. Emphasis was laid on the
fact that the company had contracted the NRC not only for the limited
purpose of getting loan but also for the further participation in its
business activity which was evincible from the correspondence made
between the two and, therefore, the income will accrue or deemed to
have accrued or arisen to the NRC in India within the provisions of
the Act. Justifying the order of revocation by the Commissioner of
Income-tax, it was set forth that order dated 21.03.1995 was only an
interim order and the final order came to be passed on 25.10.1995 by
which the revision was dismissed. It was asserted by the revenue that
the services of the NRC, as demonstrable from the material brought on
record, was rendered within India and, therefore, the company is
obliged in law to deduct income-tax before remitting "success fee" to
the NRC. On this premise, the denial of 'No Objection Certificate'
(NOC) was sought to be justified.
7. A rejoinder affidavit was filed by the appellant company
asseverating that the NRC is an independent unit and is, in a way,
subsidiarised by ABB. That apart, merely because expert advice was
obtained, it could not be said that it pursued the application for
loan/financial assistance on behalf of NRC and further the advisory
services were rendered from outside India. The stand of the revenue
that there has been an admission by the company to the effect that
there was business connection with the NRC by the company, was
controverted. It was put forth that the company was always the
principal directly concerned with the making of application for
financial assistance for the project and pursuing the same; that the
NRC did not have any office or establishment in India at any relevant
point of time; that it operated from Zurich; that there was no
business connection between the company and the NRC; and that the
success fee did not accrue or arise to the NRC in India and hence, no
income is deemed to have accrued or arisen to NRC in India. In
addition to the aforesaid it was urged Section 9(1)(i) and Section
9(1)(vii) have to be read together and in that case the stand of the
revenue was absolutely unjustified and assuming Section 9(1)(vii) of
the Act is read in isolation, the plain interpretation could not be
applicable regard being had to the nature of service rendered by NRC.
It was also pleaded that merely because the amount of success fee was
paid by the appellant-company to NRC in India for the services
rendered from outside India, the income of NRC would not deemed to
have accrued or arisen in India.
8. The High Court framed the following two issues for
consideration:
"(1) Whether 'success fee' payable by the petitioner-company to
the NRC or any portion thereof is chargeable under the
provisions the Act; and
(2) Whether the petitioner-company is entitled to 'No
Objection Certificate'."
9. The High Court referred to clause (b) of sub-section 2 of
Section 5 and Section 9 of the Act and adverted to the expression all
income accruing or arising, whether directly or indirectly, through or
from any business connection in India, or through or from any property
in India, or through from any asset or source of income in India or
through the transfer of a capital asset situate in India and
thereafter referred to Section 163(1)(b) which uses the expression
"business connection" and thereafter referring to various authorities,
culled out the principles as to what the expression "business
connection" conveys. It observed that expression "business
connection" is too wide to admit of any precise definition though it
has some well known attributes; that whether there is a business
connection between an Indian company and a non-resident company is a
mixed question of fact and law which is to be determined on the facts
and circumstances of each case; that the essence of "business
connection" is existence of close, real, intimate relationship and
commonness of interest between the NRC and the Indian person; that in
a case where there is control of management or finances or substantial
holding of equity shares or sharing of profits by the NRC of the
Indian company/person, the existence of close/intimate relationship
stand substantiated; and to constitute business connection, there must
be continuity of activity or operation of the NRC with the Indian
company/person and a stray or an isolated transaction is not enough to
establish a business connection.
10. After culling out the principles, the High Court referred to the
contents of the correspondence, the nature and extent of services
which the NRC had undertaken under the agreement, the resolution
passed by the Board of Directors which had perused the letter dated
July 8, 1993 addressed by the NRC stipulating the scope of services to
be undertaken by NRC; the decisions of the Board to pay a fee to NRC
and came to hold thus:
"On a careful reading of the letter of proposal of the NRC and
the extract of resolution of the Board of Directors of the
petitioner-company, it is clear to us that it was no part of the
services to be provided by the NRC to manage public issue in
India to correspond with various agencies to secure loan for the
petitioner-company, to negotiate the terms on which loan should
be obtained or to draft document for it. The NRC has only to
develop a comprehensive financial model, tie up the rupee/foreign
currency loan requirements of the project, assess export credit
agencies worldwide and obtain commercial bank support, assist the
petitioner-company in loan negotiations and documentation with
the lender. It appears to us that the service to be rendered by
the NRC is analogous to draw up a plan for the petitioner-company
to reach the required destination indicating roads and highways,
the curves and the turns; it does not contemplate taking the
petitioner-company to the destination by the NRC. Once the NRC
has prepared the scheme and given necessary advice and assistance
to the petitioner-company for obtaining loan, the responsibility
of the NRC is over. It is for the petitioner-company to proceed
on the suggested lines and obtain loan from Indian or foreign
agencies. On the petitioner-company obtaining loan, the NRC
becomes entitled to 'success fees'."
11. The High Court scanned the letters with due consideration and
opined that the business connection between the petitioner company and
the NRC had not been established. Thereafter, the writ court adverted
to the proposition whether success fee could fall within clause
(vii)(b) of Section 9(1) of the Act. Interpreting the said provision,
the High Court opined that:
"Thus from a combined reading of clause (vii) (b) Explanation (2)
it becomes clear that any consideration, whether lump sum or
otherwise, paid by a person who is a resident in India to a non-
resident for running any managerial or technical or consultancy
service, would be the income by way of fees for technical service
and would, therefore, be within the ambit of "income deemed to
accrue or arise in India". If this be the net of taxation under
Section 9 (1) (vii) (b), then 'success fee', which is payable by
the petitioner-company to the NRC as fee for technical service
would be chargeable to income tax thereunder. The Income-tax
officer, in the impugned order, held that the services offered by
the NRC fell within the ambit of both managerial and consultancy
services. That order of Income-tax officer found favour by the
Commissioner in revision. In the view we have expressed above,
we are inclined to confirm the impugned order."
12. At this juncture, it is necessary to note that a contention was
advanced before the High Court by the assessee that the NRC did not
render any technical or consultancy service to the company but only
rendered advise in connection with payment of loan by it and hence, it
would not amount to technical or consultancy service within the
meaning of Section 9(1)(vii)(b) of the Act. While not accepting the
said submission, the High Court observed that for the purposes of
attracting the said provision, the business of the company cannot be
divided into water-tight compartments like fire, generation of power,
plant and machinery, management, etc. and to hold that managerial and
technical and consultancy service relate to management, generation of
power and plant and machinery, but not to finance. Elaborating
further, the High Court observed that advice given to procure loan to
strengthen finances may come within the compartment of technical or
consultancy service and "success fee" would thereby come within the
scope of technical service within the ambit of Section 9(1)(vii)(b) of
the Act. Being of this view, the High Court opined the assessee was
not entitled to the "No Objection Certificate".
13. Be it stated, the constitutional validity of Section
9(1)(vii)(b) of the Act was challenged on the ground of legislative
competence and violation of Article 14 of the Constitution. The Court
referred to the earlier Division Bench decision in Electrical
Corporation of India Ltd. V. C.I.T. rendered in W.P. No. 105/1987 on
March 24, 1987 and also took note of the fact that the said case was
quoted with approval in Electrical Corporation of India Ltd. V.
C.I.T.[1] In the ultimate eventuate, High Court rejected all the
contentions advanced by the assessee-company and dismissed the writ
petition.
14. Being aggrieved, the petitioner company approached this Court.
When the matter came up for consideration before a two-Judge Bench of
this Court, which taking note of the far-reaching issues of
constitutional purport and the fact that they were earlier referred to
in the case of Electrical Corporation of India Ltd. (supra), which was
ultimately withdrawn, it, by order dated 28.11.2000, referred the
instant matter to a larger Bench. On 13.7.2010, the matter again came
up for consideration before a three-Judge Bench and vide its order of
the same date, the matter was referred to the Constitution Bench,
which answered the reference as per decision on 1.3.2011 reported in
(2011) 4 SCC 36. The issue before the Constitution Bench stated by the
Court is thus:
"It is necessary for purposes of clarity that a brief recounting
be undertaken at this stage itself as to what was conclusively
decided in ECIL and what was referred to a Constitutional Bench.
After conclusively determining that clauses (1) and (2) of
Article 245, read together, impose a requirement that the laws
made by Parliament should bear a nexus with India, the three-
Judge Bench in ECIL asked that a Constitutional Bench be
constituted to consider whether the ingredients of the impugned
provision i.e. Section 9(1)(vii) of the Income Tax Act (1961)
indicate such a nexus."
15. Before the Constitution Bench the appellant withdrew its
challenge to the constitutional validity of Section 9(1)(vii)(b) of
the Act and elected to proceed on the factual matrix as to the
applicability of the said provision. However, as the learned Attorney
General pressed upon for reconsideration, the decision in three-Judge
Bench in ECIL case, the larger Bench considered the validity of the
requirement of a relationship to or nexus with territory of India as a
limitation on the powers of Parliament to enact laws pursuant to
clause (1) of Article 245 of the Constitution. The Court adverted to
the ratio in ECIL, took note of propositions of the learned Attorney
General and the principles relating to interpretation of the
Constitution, textual analysis of Article 245, analysed the
constitutional topological space of Article 245 and the wider
structural analysis of Article 245 in the context of Article 260 and
came to hold thus:
"It would appear that the concerns of the learned Attorney
General may have been more with whether the ratio in ECIL could
lead to a reading down of the legislative powers granted to
Parliament by Article 245. A thorough textual analysis, combined
with wider analysis of constitutional topology, structure, values
and scheme has revealed a much more intricately provisioned set
of powers to Parliament. Indeed, when all the powers necessary
for an organ of the State to perform its role completely and to
effectuate the constitutional mandate, can be gathered from the
text of the Constitution, properly analysed and understood in the
wider context in which it is located, why should such
unnecessarily imprecise arrogation of powers be claimed? To give
in to such demands, would be to run the risk of importing
meanings and possibilities unsupportable by the entire text and
structure of the Constitution. Invariably such demands are made
in seeking to deal with external affairs, or with some claimed
grave danger or a serious law and order problem, external or
internal, to or in India. In such circumstances, it is even more
important that courts be extra careful."
16. Thereafter, the Court reiterated the two questions it had set
out in the beginning. The first question reads thus:
"(1) Is Parliament constitutionally restricted from enacting
legislation with respect to extra-territorial aspects or causes
that do not have, nor expected to have any, direct or indirect,
tangible or intangible impact(s) on or effect(s) in or
consequences for:
(a) the territory of India, or any part of India; or
(b) the interests of, welfare of, well-being of, or security of
inhabitants of India, and Indians?"
Answering the same, the Court observed:
"The answer to the above would be yes. However, Parliament may
exercise its legislative powers with respect to extra-territorial
aspects or causes-events, things, phenomena (howsoever
commonplace they may be), resources, actions or transactions, and
the like-that occur, arise or exist or may be expected to do so,
naturally or on account of some human agency, in the social,
political, economic, cultural, biological, environmental or
physical spheres outside the territory of India, and seek to
control, modulate, mitigate [pic]or transform the effects of such
extra-territorial aspects or causes, or in appropriate cases,
eliminate or engender such extra-territorial aspects or causes,
only when such extra-territorial aspects or causes have, or are
expected to have, some impact on, or effect in, or consequences
for: (a) the territory of India, or any part of India; or (b) the
interests of, welfare of, well-being of, or security of
inhabitants of India, and Indians."
And thereafter:
"Whether a particular law enacted by Parliament does show such a
real connection, or expected real connection, between the extra-
territorial aspect or cause and something in India or related to
India and Indians, in terms of impact, effect or consequence,
would be a mixed matter of facts and of law. Obviously, where
Parliament itself posits a degree of such relationship, beyond
the constitutional requirement that it be real and not fanciful,
then the courts would have to enforce such a requirement in the
operation of the law as a matter of that law itself, and not of
the Constitution."
17. The second question that was posed by the Constitution Bench is
as follows:
"(2) Does Parliament have the powers to legislate "for" any
territory, other than the territory of India or any part of it?"
The aforesaid question was answered thus:
"The answer to the above would be no. It is obvious that
Parliament is empowered to make laws with respect to aspects or
causes that occur, arise or exist, or may be expected to do so,
within the territory of India, and also with respect to extra-
territorial aspects or causes that have an impact on or nexus
with India as explained above in the answer to Question 1 above.
Such laws would fall within the meaning, purport and ambit of the
grant of powers to Parliament to make laws "for the whole or any
part of the territory of India", and they may not be invalidated
on the ground that they may require extra-territorial operation.
Any laws enacted by Parliament with respect to extra-territorial
aspects or causes that have no impact on or nexus with India
would be ultra vires, as answered in response to Question 1
above, and would be laws made "for" a foreign territory."
After the reference was answered, the matter was directed to be
listed before the appropriate Bench.
18. We have heard Mr. U.A. Rana, learned counsel for the appellants
and Mr. Arijit Prasad, learned counsel for the respondents.
19. At the very outset, it is necessary to mention as the challenge
to the constitutional validity of the provision has been withdrawn, and
the same accordingly has not been gone into by the Constitution Bench,
there is no necessity to dwell upon the same. The crux of the matter
is whether, in the obtaining factual matrix, the High Court was
justified in concurring with the view expressed by the revisional
authority that the assessee-company was not entitled to "No Objection
Certificate" under the Act as it was under the obligation to deduct the
tax at source pertaining to payment to the NRC as the character of
success fee was substantiated by the revenue to put in the ambit and
sweep of Section 9(1)(vii)(b) of the Act.
20. At this juncture, it is demonstrable that NRC is a Non-Resident
Company and it does not have a place of business in India. The revenue
has not advanced a case that the income had actually arisen or received
by the NRC in India. The High Court has recorded the payment or
receipt paid by the appellant to the NRC as success fee would not be
taxable under Section 9(1)(i) of the Act as the transaction/activity
did not have any business connection. The conclusion of the High Court
in this regard is absolutely defensible in view of the principles
stated in C.I.T. V. Aggarwal and Company[2], C.I.T. V. TRC[3] and
Birendra Prasad Rai V. ITC[4]. That being the position, the singular
question that remains to be answered is whether the payment or receipt
paid by the appellant to NRC as success fee would be deemed to be
taxable in India under Section 9(1)(vii) of the Act. As the factual
matrix would show, the appellant has not invoked Double Taxation
Avoidance Agreement between India and Switzerland. That being not
there, we are only concerned whether the "success fee" as termed by the
assessee is "Fee for technical service" as enjoined under Section
9(1)(vii) of the Act. The said provision reads as follows:
"9. Income deemed to accrue or arise in India - (1) The
following income shall be deemed to accrue or arise in India --
(vii) income by way of fees for technical services payable by-
(a) the Government ; or
(b) a person who is a resident, 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 ; or
(c) a person who is a non-resident, where the fees are
payable in respect of services utilised in a business or
profession carried on by such person in India or for the
purposes of making or earning any income from any source in
India :
[Provided that nothing contained in this clause shall
apply in relation to any income by way of fees for technical
services payable in pursuance of an agreement made before
the 1st day of April, 1976, and approved by the Central
Government.]
[Explanation 1.-For the purposes of the foregoing proviso, an
agreement made on or after the 1st day of April, 1976, shall be
deemed to have been made before that date if the agreement is
made in accordance with proposals approved by the Central
Government before that date.]
[Explanation 2.]-For the purposes of this clause, "fees for
technical services" means any consideration (including any lump
sum consideration) for the rendering of any 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 or consideration which would be income of the
recipient chargeable under the head "Salaries".]
21. Explanation to the Section 9(2) was substituted by the Finance
Act 2010 with retrospective effect from 1.6.1976. Prior to the said
substitution, another Explanation had been inserted by the Finance Act,
2007 with retrospective effect from 1.6.1976. The said Explanations
read as under:
"As amended by Finance Act, 2010
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.]
As amended by Finance Act, 2007
Explanation.-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."
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.
23. Having stated about the "source rule", it is necessary to
appropriately appreciate how the concept has developed. At the time of
formation of "League of Nations" at the end of 1920, it comprised of
only 27 countries dominated by the European States and the United
States of America. The United Nations that was formed after the Second
World War, initially had 51 members. Presently, it has 193 members.
With the efflux of time, there has been birth of nation States which
enjoy political independence and that has led to cross-border and
international trade. The State trade eventually has culminated in
formulation of principles pertaining to international taxation
jurisdiction. It needs no special emphasis to state that the said
taxation principles are premised to promote international trade and to
allocate taxation between the States. These rules help and further
endeavour to curtail possibility of double taxation, tax discrimination
and also to adjudicate resort to abusive tax avoidance or tax evasion
practices. The nation States, in certain situations, resort to
principle of "tax mitigation" and in order to protect their citizens,
grant benefit of tax abroad under the domestic legislation under the
bilateral agreements.
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
the residence of the recipient. It is well settled that the source
based taxation is accepted and applied in international taxation law.
25. The two principles that we have mentioned hereinabove, are also
applied in domestic law in various countries. The source rule is in
consonance with the nexus theory and does not fall foul of the said
doctrine on the ground of extra-territorial operation. The doctrine of
source rule has been explained as a country where the income or wealth
is physically or economically produced. [See League of Nations, Report
on Double Taxation by Bruins, Einaudi, Saligman and Sir Josiah Stan
(1923)]. Appreciated on the aforesaid principle, it would apply where
business activity is wholly or partly performed is a source State, as a
logical corollary, the State concept would also justifiably include the
country where the commercial need for the product originated, that is,
for example, where the consultancy is utilized.
26. From the aforesaid, it is quite vivid that the concept of
income source is multifaceted and has the potentiality to take
different forms [See Klans Vogel, World-wide V. Source Taxation of
Income - Review and Revision of Arguments (1988)]. The said rule has
been justified by Arvid A. Skaar in Permanent Establishment; Erosion of
Tax Treaty Principle on the ground that profits of business enterprise
are mainly the yield of an activity, for capital is profitable to the
extent that it is actively utilised in a profitable manner. To this
extent, neither the activity of business enterprise nor the capital
made, depends on residence.
27. The purpose of adverting to these aspects is only to highlight
that the source rule has been accepted by them in the UN Commentaries
and the Organisation of Economic Corporation and Development (OECD)
Commentaries. It is well known that what is prohibited by
international taxation law is imposition of sovereign act of a State on
a sovereign territory. This principle of formal territoriality applies
in particular, to acts intended to enforce internal legal provisions
abroad. [See the Introduction in Klaus Vogel on Double Taxation
Convention, South Asean, Reprint Edition (2007)]. Therefore, deduction
of tax at source when made applicable, it has to be ensured that this
principle is not violated.
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.
29. In this context, it would be appropriate to reproduce the
letter dated 8.7.1993 addressed by the NRC. It reads as follows:
"We propose the following scope of services to be performed by
ABB PTF:
Assisting GVK Industries Limited ("GVK") in putting together the
financial structure and security package to be offered to the
lenders;
Evaluating the pros and cons of various lending alternatives,
both for the local and the foreign borrowings;
Developing a comprehensive financial model to evaluate the
project and to perform various sensivity studies;
Preparing a preliminary information Memorandum to be used as the
basis for placing the foreign and local debt;
Accessing Export Credit Agencies world wide obtaining commercial
bank support on the most comprehensive terms;
Assisting GVK in loan negotiations and documentation with
lendors; and
Structuring, negotiating and closing the financing for this
project in a coordinated and expeditious manner.
We propose a compensation structure based only on success. As
an exception, ABB PTF does not propose either any retainers or
any reimbursement for travel and other expenses incurred by ABB
PTF.
The success fee will be 0.75% of the total debt, payable at
financial closing."
30. The said letter was placed before the Board of Directors of the
appellant company in its meeting held on August 21, 1993. The relevant
part of the resolution passed by the Board is extracted hereinbelow:
".....It was explained to the Directors that ABB-PTF's scope of
service for the project include:
Developing a comprehensive financial model;
Tying up the rupee/foreign currency loan requirements of the
project;
Assessing Export Credit Agencies worldwide and obtaining
commercial banks support on the most competitive terms;
Assisting GVK in loan negotiations and documentation with
lenders.
For the above scope of service ABB PTF would be paid a fee of
0.75% of the loan amount which is payable only on successful
financial closing. The Directors while approving this
arrangement, advised that ABB-PTF should also be involved in the
public issue of the company."
31. From the aforesaid two documents, it is clear as crystal that
the obligation of the NRC was to:
(i) Develop comprehensive financial model to tie-up the rupee and
foreign currency loan requirements of the project.
(ii) Assist expert credit agencies world-wide and obtain commercial
bank support on the most competitive terms.
(iii) Assist the appellant company in loan negotiations and
documentation with the lenders.
32. Pursuant to the aforesaid exercises carried out by the NRC, the
company was successful in availing loan/financial assistance in India
from the Industrial Development Bank of India (IDBI) which acted as a
lead financier for the rupee loan requirement. For foreign currency
loan requirement, the appellant approached International Finance
Corporation, Washington D.C., USA and was successful. In this
backdrop, "success fee" of Rs.5.4 crores was paid to the NRC.
33. In this factual score, the expression, managerial, technical or
consultancy service, are to be appreciated. The said expressions have
not been defined in the Act, and, therefore, it is obligatory on our
part to examine how the said expressions are used and understood by the
persons engaged in business. The general and common usage of the said
words has to be understood at common parlance.
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 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[6], 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.
37. As the factual matrix in the case at hand, would exposit the NRC
had acted as a consultant. It had the skill, acumen and knowledge in
the specialized field i.e. preparation of a scheme for required
finances and to tie-up required loans. The nature of activities
undertaken by the NRC has earlier been referred to by us. The nature
of service referred by the NRC, can be said with certainty would
come within the ambit and sweep of the term 'consultancy service' and,
therefore, it has been rightly held that the tax at source should have
been deducted as the amount paid as fee could be taxable under the
head 'fee for technical service'. Once the tax is payable paid the
grant of 'No Objection Certificate' was not legally permissible.
Ergo, the judgment and order passed by the High Court are absolutely
impregnable.
38. Consequently, the appeal, being devoid of merit, stands
dismissed. However, in the facts and circumstances of the case there
shall be no order as to costs.
..........................................................J.
[DIPAK MISRA]
.........................................................J.
[SUDHANSU JYOTI MUKHOPADHAYA]
NEW DELHI
FEBRUARY 18, 2015.
-----------------------
[1] (1990) 183 ITR 43 (SC); [(1989) Supp. 2 SCC 642]
[2] (1965) 56 ITR 20
[3] (1987) 166 ITR 1993
[4] (1981) 129 ITR 295
[5] (1999) 242 ITR 280
[6] (2009) 319 ITR 139
