COMPONENTSOURCE COMPANY LTD. vs. ASSISTANT COMMISSIONER OF INCOME TAX, CIRCLE INT TAX 1(2)(1), NEW DELHI

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W.P.(C)/7753/2024HC DelhiDLHC01032259202427 May 2024Bench: HON'BLE MR. JUSTICE YASHWANT VARMA,HON'BLE MR. JUSTICE PURUSHAINDRA KUMAR KAURAV5 pages
AI SummaryAllowed

What did the High Court hold?

The High Court allowed the writ petition and quashed the order passed under Section 148A(d) and the notice under Section 148 of the Act, both dated March 28, 2024. The Court found that the respondent (Revenue) had failed to deal with the fundamental challenges to the reassessment action raised by the petitioner. Specifically, the petitioner had relied on the Supreme Court's decision in *Engineering Analysis Centre of Excellence (P.) Ltd. vs. CIT* to argue that shrink-wrapped software sales do not constitute royalty, and had also questioned the initiation of action based on the absence of a PE in India. The Court observed that the respondent had perfunctorily disposed of these objections in paragraph 6 of the impugned order, deferring findings on royalty and PE for further verification. The Court held that at the stage of initiating action under Section 148, the respondent must be subjectively satisfied that taxable income has escaped assessment, a critical aspect that was ignored. Consequently, the matter was directed to be revived at the Assessing Officer's desk for fresh consideration from the stage of the petitioner's reply, with all rights and contentions of both parties kept open.

What were the facts?

The petitioner, ComponentSource Company Ltd., a Japanese entity engaged in software supply, challenged a reassessment notice issued under Section 148 of the Income Tax Act, 1961, dated March 28, 2024. This followed a notice under Section 148A(b) dated February 24, 2024, based on information from the Non-Filing Monitoring System for AY 2020-21. The Revenue alleged that income of INR 6,52,46,913/- appeared to have escaped assessment due to unexplained payments. The petitioner, in its reply, asserted that as an overseas entity without a Permanent Establishment (PE) in India, its income from software sales was not taxable in India under the India-Japan DTAA, citing Supreme Court judgments. The Assessing Officer (AO), in an order under Section 148A(d), found the petitioner's reply unsubstantiated, requiring verification of the nature of software sales, royalty claims, and PE existence.

What were the issues?

1. Whether the reassessment action initiated by the issuance of a notice under Section 148 of the Income Tax Act, 1961, dated March 28, 2024, is sustainable, given the respondent's alleged failure to deal with the fundamental challenges raised by the petitioner in its reply to the notice under Section 148A(b). Assessee's Contentions: - The income earned from the sale/trade of canned software is not liable to tax under Article 5 read with Article 7 of the India-Japan DTAA as the assessee does not have any Permanent Establishment (PE) in India. - Reliance is placed on Supreme Court judgments in *Director of Income-tax (International Taxation) vs. Organ Stanley & Co.* [2007] 162 Taxman 165 (SC), *Formula One World Championship Ltd. vs. Commissioner of Income-tax* [2017] 80 taxmann.com 347 (SC), *Ishikawajma-Harima Heavy Industries Ltd. vs. Director of Income-tax* [2007] 158 Taxman 259 (SC), and *Hyundai Heavy Industries Co. Ltd. vs. Director of Income-tax (International Taxation)* [2007] 161 Taxman 191 (SC), which establish that the existence of a PE is a prerequisite for taxing business profits in the source country. - The monies received from the sale/re-sale of shrink-wrapped software do not amount to royalty, as per *Engineering Analysis Centre of Excellence (P.) Ltd. vs. CIT* [(2021) 432 ITR 471(SC)]. - The question of unexplained income arises only when income is chargeable to tax and is concealed; in this case, the income is per se non-taxable due to DTAA benefits. Revenue's Contentions: - The assessee has not submitted copies of agreements, end-user license agreements, or other documents to substantiate the nature of the software being sold. - The claim that royalty from software is not taxable needs verification of the nature of business and the product. - Since the assessee has not filed an Income Tax Return (ITR), the income cannot be claimed as exempt or justified as such. - Whether the assessee has a PE in India is a question of fact and law requiring verification.

Which sections of the Income-tax Act were involved?

Section 148,Section 148A(b),Section 148A(d)

AI-generated summary — verify with the full judgment below

W.P.(C) 7753/2024

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$~124 * IN THE HIGH COURT OF DELHI AT NEW DELHI + W.P.(C) 7753/2024

COMPONENTSOURCE COMPANY LTD. ..... Petitioner

Through: Mr. Salil Kapoor, Mr. Shivam

Yadav, Ms. Ananya Kapoor,

Mr. Sumit Lalchandani and Mr.

Vibhu Jain, Advocates

versus

ASSISTANT COMMISSIONER OF INCOME TAX, CIRCLE

INT TAX 1(2)(1), NEW DELHI

..... Respondent Through: Mr. Aseem Chawla, Senior Standing Counsel for Revenue

CORAM:

HON'BLE MR. JUSTICE YASHWANT VARMA

HON'BLE MR. JUSTICE PURUSHAINDRA KUMAR KAURAV

27.05.2024 O R D E R

Allowed, subject to all just exceptions. CM APPL 32153/2024 (Exemption)

The application stands disposed of. 1. The writ petitioner impugns the reassessment action initiated in terms of notice issued under Section 148 of the Income Tax Act, 1961 [“Act”] dated 28 March 2024. As would be evident from the record, a notice referable to Section 148A(b) of the Act came to be issued against the petitioner on 24 February 2024. The same was based on material gleaned from the Non-Filing Monitoring System of the Department and pertaining to Assessment Year [“AY”] 2020-21. W.P.(C) 7753/2024 and CM APPL 32152/2024 (Stay) 2. The respondents took the position that on the basis of the This is a digitally signed order. The authenticity of the order can be re-verified from Delhi High Court Order Portal by scanning the QR code shown above. The Order is downloaded from the DHC Server on 01/06/2024 at 12:42:56

W.P.(C) 7753/2024

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information appearing on the Insight Portal it appears that various payments were made to the writ petitioner and in respect of which tax had been deducted at source by various entities. It, accordingly, alleged that income amounting to INR 6,52,46,913/- remained unexplained and appears to have escaped assessment. 3. In response to the aforesaid notice the petitioner in terms of its reply dated 12 March 2024 explained that it was an overseas entity incorporated in Japan and is engaged in the supply of software. It was further averred that it procures software from its vendors on a principal-to-principal basis for purposes of sale/re-sale to its customers situate across the globe including India. The petitioners further asserted that in the course of that sale no right to reproduce, sub-licence, modify or translate any software is transferred. 4. Insofar as the question of taxability of income was concerned, the petitioner asserted that even if the income so generated were to be viewed as business income, the same would not be taxable in the absence of a Permanent Establishment [“PE”] of the petitioner existing in India. Benefit was thus claimed of the provisions contained in the India-Japan Double Taxation Avoidance Agreement [“DTAA”]. 5. We take note of the specific stand taken in this regard in the reply dated 12 March 2024: “4.1 The income earned by the Assessee from the sale/trade of the canned software is not liable to tax under Article 5, read with Article 7 of the DTAA as entered between India and Japan, because of the fact that the Assessee does not have any permanent establishment in India and in the absence of any PE the income as earned under the Article Business Income is not liable to tax in India. Reliance in this regard is placed upon the below mentioned judgements of the Hon’ble Apex Court: I. Director of Income-tax (International Taxation) vs. Organ Stanley & Co. reported as [2007] 162 Taxman 165 (SC) This is a digitally signed order. The authenticity of the order can be re-verified from Delhi High Court Order Portal by scanning the QR code shown above. The Order is downloaded from the DHC Server on 01/06/2024 at 12:42:56

W.P.(C) 7753/2024

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II. Formula One World Championship Ltd. vs. Commissioner of Income-tax, (International Taxation)-3, Delhi [2017] 80 taxmann.com 347 (SC) III. Ishikawajma-Harima Heavy Industries Ltd. vs. Director of Income-tax reported as [2007] 158 Taxman 259 (SC) IV. Hyundai Heavy Industries Co. Ltd. vs. Director of Income- tax (International Taxation) reported as [2007] 161 Taxman 191 (SC) 4.2 From the bare perusal of the captioned judgment, you will appreciate that the Hon’ble Apex Court has been consistent in its stand that the existence of a PE is a prerequisite for taxing the business profits in the source country. Hence, in the case at hand, as there is no PE in India (of any type), the Business Income earned from Indian customers is not chargeable to tax in India. 4.3 At the cost of duplicity, we would like to bring on record that the question of un-explained income only arise when the income is chargeable to tax and the Assessee intentionally or otherwise conceals the same, in the case at hand the income per se is non- taxable on account of the benefit available to the Assessee under the DTAA as entered between India and Japan which takes out the income as earned by the Assessee from Indian customers from the tax net of Income-tax Act as the income as earned by the Assessee is neither royalty nor business income as per the respective Articles of the DDTAA. Hence, the question of unexplained income dies not arise in the case at hand.”

6.

However, and while passing an order under Section 148A(d) of the Act the respondent has observed as under: 6. The assessee in its reply has claimed that no income is chargeable to tax in India and hence return not been filed but the assessee has not submit the copy of agreement, the end user license agreement or any other document to substantiate the nature of the software being sold. Further the assessee has claimed that the royalty from the software is not taxable but the same needs verification of the nature of business and the product of the software. Further, the assessee has claimed that the income is exempt but since the assessee has not been filed ITR thus income neither be claimed on exempt nor justified to be so. Further, whether the assessee has a Permanent Establishment or not during the year under consideration is a question of fact and law and hence need to be verified. This is a digitally signed order. The authenticity of the order can be re-verified from Delhi High Court Order Portal by scanning the QR code shown above. The Order is downloaded from the DHC Server on 01/06/2024 at 12:42:56

W.P.(C) 7753/2024

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The assessee was required to file the ITR, declaring the income and justifying the claim that the income is exempt for India. Hence, prime facia it appears that assessee has not substantiated the non taxability of the receipts received by it.”

7.

We find ourselves unable to sustain the initiation of reassessment action bearing in mind the evident failure on the part of the respondent to deal with the fundamental challenge to reassessment as were raised by the petitioner. As would be evident from a perusal of the reply which was submitted to the Section 148A(b) notice, the petitioner had specifically alluded to the judgment rendered by the Supreme Court in Engineering Analysis Centre of Excellence (P.) Ltd. vs. CIT [(2021) 432 ITR 471(SC)] to contend that the monies received from the sale/re-sale of shrink-wrapped software would not amount to royalty so as to be taxable. It had additionally also questioned the initiation of action based on its assertion of no PE existing in India. 8. However, and as is evident from para 6 of the order under Section 148A(d) extracted above, those objections have been perfunctorily disposed of with the respondent observing that whether the revenue earned from the sale of software would amount to royalty would require further verification. Similarly, while dealing with the issue of PE it has chosen to observe that the same “is a question of fact and law and hence need to be verified”. 9. In our considered opinion, the respondent has clearly failed to deal with objections which struck at the very root of assumption of jurisdiction. Findings on the aspect of royalty and PE could not have been deferred or made subject matter of further verification. This since at the stage of initiating action under Section 148, the respondent must This is a digitally signed order. The authenticity of the order can be re-verified from Delhi High Court Order Portal by scanning the QR code shown above. The Order is downloaded from the DHC Server on 01/06/2024 at 12:42:56

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be subjectively satisfied that income which was taxable has in fact escaped assessment. This aspect of criticality has clearly been ignored by the respondent while passing the impugned order. 10. Accordingly, and for all the aforesaid reasons, we allow the instant writ petition and quash the order passed under Section 148A(d) and notice under Section 148 of the Act, both dated 28 March 2024. 11. The matter shall consequently stand revived at the desk of the AO for being considered afresh and from the stage of the reply of the writ petitioner. All rights and contentions of respective parties are kept open.

YASHWANT VARMA, J.

PURUSHAINDRA KUMAR KAURAV, J. MAY 27, 2024/kk This is a digitally signed order. The authenticity of the order can be re-verified from Delhi High Court Order Portal by scanning the QR code shown above. The Order is downloaded from the DHC Server on 01/06/2024 at 12:42:56

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