DCIT, NEW DELHI vs. M/S JAS FORWARDING WORLD PVT. LTD., NEW DELHI

The aforesaid cross appeals have been preferred by the Revenue as well as by the Assessee against impugned order dated 18.04.2011, passed by Ld. Commissioner of Income Tax (Appeals) for the quantum of assessment u/s 143(3) for the A.Y. 2007-08. 2. The Grounds of Appeal raised by the Revenue are as under:-- “1. The order of the Learned CIT (A) is erroneous &contrary to facts and Law.

2. On the facts and in the circumstances of the case and in law, the learned CIT (Appeals) has erred in deleting the addition of Rs.21,05,07,858/- made u/s 40 (a)(i) of the I T Act being the payment made to non resident associate enterprise. 2.1 The Ld. CIT (A) ignored the finding recorded by the A.O and the fact that the income in question accrued in India and is liable for TDS.” 2.1 Whereas the Grounds of Appeal raised by the Assessee in its appeal are as under:- 1. “On the facts and in the circumstances of the case and in law, the Learned Commissioner of Income Tax (Appeals) (CIT (A)) on erroneous and insufficient grounds, has grossly erred in confirming an addition of Rs.21,58,139 holding that the expenditure was not made in the course of business or on account of commercial expediency.

2. That the Ld. CIT(A) erred in confirming an addition of Rs.21,58,139 made by the Ld. DCIT u/s 40(a)(i) of the Act, on erroneous and insufficient grounds and without offering any opportunity to the Appellant , erred in not appreciating that the expenditure was incurred for the purpose of business of the Appellant and was therefore, allowable in full.

3. That the sustaining of the addition of Rs.21,58,139 by the Ld. CIT(A) by not offering any opportunity to the Appellant is against the principles of natural justice and is liable to be quashed.

4. That Ld. CIT(A) has failed to appreciate the fact that the Travelling Cost amounting to Rs.1,18,328 (included in Rs.21,58,139) was received/receivable by the Appellant, and was in fact not an expenditure which was claimed as a deduction, therefore, no disallowance, in any case, was called for.

4. First, we will take up the appeal of the Revenue, wherein the only issue raised by the Revenue is, whether the Assessee was liable to TDS on the payments made to its Associated Enterprises (AEs) and consequently the disallowance u/s 40(a)(i) made by the Ld. Assessing Officer is correct in law or not. Before adjudicating this issue, it would be pertinent to understand the business model of the Assessee. Assessee is engaged in the business of international freight forwarding through air and ocean. It is part of the network of Associated Enterprises ('AEs’) and the transactions entered into by the Assessee have an AE/Affiliate in other jurisdiction which performs the associated function in a particular transaction. The functions performed by the Assessee and its AEs are based on the origin or destination of the consignment. The AEs are carrying on the business of freight forwarding services in their respective jurisdictions which are mirror reflection of the business activities carried on by the Assessee. As submitted by the Ld. Counsel, Sri Salil Kapoor, assessee provides outbound and inbound freight forwarding services, functions performed can be classified three types of services to its customers which has been explained in the following manner:- ORIGIN SERVICES I. These services are provided both in the case of Import as well as Export transactions. In the case of import into India, the origin services are provided by the AEs and in the case

of exports out of India, the origin services are provided by the Assessee. II. In these services, the Assessee and the AE provide a mirror reflection of services in their respective countries/ territories. In effect, it means that the AE provides their part of the services in their Territory only and no part of the services are provided in Indian Territory. Similarly, the Assessee provides services in the Indian Territory only and no part of the services is provided by the Assessee in the overseas territory.

III. That with respect to the above services, the entire revenue earned and expenses incurred for rendering the services is kept by the respective AEs and the Assessee, who perform them in their respective territory only, and no part of such revenue or expenses is shared amongst each other. Example of such services rendered under "origin services" are pick up, local transportation, labeling, packing custom clearance etc.

CROSS BORDER FREIGHT I. This service is provided both in the case of import into India as well as export from India from Port to Port. Cross border freight services were commonly carried out by the AEs and the Assessee for which the 'Agency Agreement' was entered. II. The said activity only related to shipping of the cargo of the customer (foreign or Indian) from one port to another port, for which air/ shipping lines were arranged by the Assessee and AEs accordingly. In this case, one port would be an Indian port and the other would be an overseas port. The entire procedure carried out by the Assessee and AEs in their territories in case of imports into India, in the above activity is explained below:- III. Customer approaches the Assessee for the import of cargo into India & demands the quote for freight charges; The Assessee inquires about the cost of the freight from the AE for importing cargo into India; AE negotiates freight rates with the carrier (means air/ shipping line) outside India; Assessee receives the freight cost from the AE; After keeping an appropriate margin, the Assessee negotiates the freight charges with customer and transaction is finalized; Customer gives the instructions for execution of shipment; The Assessee passes the instruction to AE to move the cargo into India; AE pays the freight to carrier from its own pocket outside India on behalf of the Assessee; AE moves the cargo into India through the carrier which is independent; Remuneration is calculated as 50:50 (as agreed in the agency agreement) on the difference between freight to be collected from customer and freight paid to the carrier; AE raises a debit note on the Assessee for freight paid to the carrier along with 50% of the profit share; The Assessee makes the remittance to the AE which consists of the freight charges as well as AE share of profit without deducting tax in India. Further, in the entire remittance made to the.AE: the freight charges normally account for more than 90% of the remittance

For example, in the above arrangement, the rates charged by the AE situated in Japan relating to the shipping activity say Rs. 120, out of which say Rs. 100 is paid to the air/shipping line for carrying out the shipping activity. The balance amount i.e. Rs. 20 is distributed equally between the AE and the Assessee as profit share. The addition of Rs 21,05,07,858/- is predominantly covered under this service. DESTINATION SERVICES I. These services are being provided both in the case of Import as well as Export transactions. In the case of Export from India, the services are provided by the AE and, in the case of Imports into India, the services are provided by the Assessee. The Assessee and the AE, for these services, provide a mirror reflection of services in their respective countries/ territories. In effect, it means that the AE provides their part of the services in their territory only and no part of the services is provided for in the Indian Territory. Similarly, the Assessee provides services in the Indian Territory only and no part of the services is provided by the Assessee in the overseas territory. That with respect to the above services, the respective AE and the Assessee keeps the entire revenue earned and bears the expenses incurred and no part of such revenue or expense is shared. Example of such services rendered under "Destination Services" is custom clearance and door delivery, local transportation, etc.

II. The payments made by the Assessee to its AEs situated across the world are produce below for reference- 5. The transactions undertaken by JAS India with its AEs/Affiliates can be further categorized into following stages: Stage I Stage II Stage III

Supplier Port of Origin Port of Destination Customer 5.1 The profit earned during the first stage of the process is retained by the Origin Company, and the profit earned during the third stage of the process is retained by the Destination Company. Accordingly, the costs and risks are borne by the respective entity. 5.2 With respect to the second stage of the process, the profit earned on the third party freight costs (i.e., the difference between the costs paid to the third party transporter and the price received from the customer) is attributable to both the origin and destination companies. All profits earned on stage two of the freight forwarding process are divided equally.

5.3 Accordingly, the Assessee, during the year under consideration, made certain remittances to AEs which includes reimbursement of freight charges and also an element of income for the commercial activities undertaken by AEs in their respective jurisdictions. Out of the total remittances made, 90 percent pertains to reimbursements of third party freight costs incurred by the AEs on behalf of the Assessee and the balance represents net revenue share towards services rendered by the AEs/affiliates.

tax was deducted at source. In response vide written submission dated 08.12.2010,the assessee company has given details of payments made to non-resident associate enterprises for freight and forwarding services rendered by them amounting to Rs.21,05,07,858/-. Vide order sheet entry dated 08.12.2010, the assessee company was asked to justify non deduction of tax at source on these payments. In response the assessee company vide written submission………. It is submitted that the facts of the transaction amply demonstrates that the JAS Overseas entities are carrying on the business and not rendering any services in the nature of technical or professional services or getting any income on account of royalty which may attract withholding tax applicability in terms of the DTAA with the respective countries. The JAS Overseas companies are carrying on the businesses which are a mirror reflection of the business being carried on by the assessee in India. Jas India is making payment for freight and this the services rendered for which the payment has been made consists of the Business Income of the parties receiving the payments. Further, all the companies to whom payments have been effected by the assessee are independent entities having no PE in India. Accordingly, as the payments to overseas group entities of the assessee constitute business income in terms of the relevant treaty, the same are not taxable in India in the absence of their having in PE in India.”

8. Being aggrieved by the order of the AO, the Assessee preferred an appeal before the CIT (A).

 The Assessee and its Associated Enterprises (AEs), who are non-residents, are engaged in the business of freight and forwarding in India and different countries, respectively. During the concerned year, the Assessee had an effective 'Agency Agreement' with Jas Forwarding Worldwide on behalf of JAS Group of Companies and subsequently had become a member of the JAS Group of Companies Network.  Further, as per provisions of the said arrangement, profit share between the Assessee and JAS Forwarding Worldwide is 50/50 basis and calculated on the sea freight or air freight, only, irrespective of whether freight is prepaid or collect. Rest of the incomes accruing for services rendered accrues wholly to the respective parties including the Assessee.  As per the Agency Agreement, the transactions that were to be undertaken amply demonstrate that both the Assessee and JAS Group of Companies would be carrying on the businesses which would be a mere mirror-reflection of each other business activity, i.e. in case of export transactions, the origin services would be provided by the Assessee Company and destination services would be provided by JAS Group of Companies and conversely, in the case of import transactions, the origin services would be provided by JAS Group of 11

Companies and destination services would be provided by the Assessee Company.  Basis the above facts, since the non-resident overseas entities did not carry any activity or business operation in India, and they did not render any service in India, no portion of their business profits earned by them exclusively for services rendered outside India can be brought to tax in India, either under Section 9(1) or otherwise or at all. Therefore, there is no question of treating the relationship between the Appellant Company and the overseas entities as a business connection within the meaning of Section 9(1)(i) of the Income Tax Act, 1961.  It was submitted that a relation to be a "business connection" must be real and intimate, and through or from which income must accrue or arise whether directly or indirectly to the non- resident. In the absence of a precise meaning of the term, determination of business connection has been the subject matter of litigation and a number of judicial precedents are available on the matter. However, the question whether there is a business connection from or through which income, profits or gains arise or accrue to a non-resident must be determined on the basis of peculiar facts and circumstances prevailing in each case and the available judicial precedents only provide certain general guiding principles, to be considered while evaluating the matter, rather than definitive tests.

 Further, from the analysis of the various judgments / decisions of various courts that certain parameters for calling the relationship as business connection, has been carved out, which are enumerated hereunder:- i. A real and intimate relation must exist between the trading activities carried on outside India by a non- resident and the activities within India. ii. Such relationship must contribute to the income of the non- resident. iii. Some part of the activity must be carried out in India. iv. ]Continuity of relationship must be there.

 From the above quoted parameters, it is very evident that the various courts have prescribed four conditions to qualify as business connection for the purposes of deemed accrual or arise in India. The Ld. AO very conveniently chose to ignore the third condition which is that some part of the activity must be carried out in India. As already submitted in the facts above, only cross border freight services were commonly carried out by the AEs and the Assessee for which the 'Agency Agreement' was entered. In order to have a real picture of the activity, the Assessee placed an illustration. For instance, in case of imports of cargo from Japan to India, the role of each party in carrying out their respective activities would be- a. Role of AE of the Assessee situated in Japan - arrange an air/ shipping line to deliver the cargo from the custom frontiers of the Japan to the custom frontiers of India and negotiate freight charges. b. Role of air/ shipping line - transmit the cargo from the custom frontiers of the Japan to the custom frontiers of India. c. Role of the Assessee - taking the delivery of the cargo at Indian custom frontier.

the non-resident associate enterprises do not exercise any control over the activities performed by the Assessee. 6.2 It is also observed that the AO has overlooked the expression 'any such sum chargeable under this act' and given a finding contrary to this expression. The AO has placed reliance on the decision of the Hon'ble Supreme Court in the case of Transmission Corporation of AP Vs CIT (1999) 239 ITR 587. I do not find myself in agreement with the observation of the AO that the ratio of Transmission Corporation of AP is applicable to the case of assessee. The observations of the Supreme Court in Transmission Corporation of AP (supra) have to be read in the context of the question before the court i.e. whether tax was deductible on the gross trading receipts or only on the ' pure income profits'. The court was not concerned with the case where the receipt was not chargeable to tax in the hands of the recipient at all. On the other hand the observations of the court make it clear that liability to deduct tax at source arises only when the sum payable to the non-resident is chargeable to tax. This view has also been followed by the jurisdictional High Court of Delhi in the case of Van Oord ACZ India (P) Ltd. v CIT (2010) 323 ITR 130(Del): 189 Taxman 232( Del) 230 CTR(Del) 365. On the issue as to whether section 195(1) arises only if the payment is chargeable to true in the hands of the recipient, I find that the issue is now covered and settled by the judgment of the Hon'ble Supreme Court in the case of GE India Technology Cent. (P.) Ltd. (2010) 327 ITR 456 wherein the Hon'ble Court reversed the decision of the Karnataka High Court in the case of CIT (International Taxation) v. Samsung Electronics [2010] 302 ITR 209. The Hon'ble Supreme Court held that a person paying interest or any other sum to a non-resident is not liable to deduct tax if such sum is not chargeable to tax. It emphasizes the fact that section 195(1) uses the word "Payer" and not the word "Assessee". The payer is not the assessee. It held that the payer becomes the assessee in default only when he fails to fulfill the statutory obligation under section 195(1). If the payment does not contain the element of income, the payer cannot be made liable and he cannot be declared to be an assessee in default. In view of the discussion made above, it is held that the disallowance of Rs.21,05,07,858/- on account of payments made to non- resident associate enterprises by invoking the provisions of section 40 (a)(i) of the Act is not justified and the same is deleted. As a result, grounds. of appeal No. 9 to 13 are treated as allowed.”

Affiliates, the overseas entities are not chargeable to tax in India on their business profits.  The Assessee relied on the following decisions in this regard wherein similar issue has been decided in favour of the Assessee Sl. Case Law Citation No. 1. Balmer Lawrie & Co. Ltd. [2016] 68 taxmann.com 384 2. UPS SCS (Asia) Limited [2012] 18 taxmann.com 302 3. UPS SCS (Asia) Limited

[1980] 125 ITR 525 (SC) 9. Toshoku Limited

i. The provisions of section 195 of the Act, lays down the conditions for deduction of tax from payments made to non-residents and mandates to withhold taxes only before making any payments chargeable as income under the provisions of the Act. Therefore, the concept of "income" or "any sum chargeable to tax" becomes important. ii. Where the payment is not chargeable under the Act and no tax is required to be deducted at source, the section does not get attracted and no disallowance can be made under this section. iii. Reliance was placed on the judgment of Hon'ble Supreme Court in the case of G. E. India Technology Center India Pvt. Ltd Vs. CIT & Anr [234 CTR 153 (SC)], wherein the Apex Court observed that disallowance u/s 40(a)(i) can be made when there 'is a liability to deduct tax, and is not deducted. Thus, the Hon’ble Apex Court observed that sec 40(a)(i) ensures effective compliance of Sec 195 by disallowing the sum paid without withholding of tax. The Supreme Court have laid lot of emphasis on the phrase "chargeable under the provisions of this Act" while deciding the issue of tax deduction at source by a person making payment to a non-resident. For this, the Hon’ble Court relied upon an earlier ruling in the case of CIT v. Cooper Engg. Ltd. (1968) 68 ITR 457 (Bom.), wherein it was pointed out that if the payment made by the resident to the non-resident was an amount which was not chargeable to tax in India, then no tax is deductible at source. iv. The Courts have considered the import of words "sum chargeable under the provisions of the Act" appearing in Section 195, which do not find place in other provisions of the Act. The difference can be explained only by attracting an appropriate meaning to the term 'chargeable'. In other words, the Court held that the obligation to deduct tax at source arises only when there is a sum chargeable under the Act and, therefore, section 195 has to be read in conformity with charging provisions, i.e. sections 4, 5 & 9 as well as the provisions of relevant DTAA and this condition has not been satisfied in the present case.

16.1 Furthermore, the said agreement has been framed to specifically provide that the terms of contracts/transactions between AEs/Affiliates and JAS Forwarding Worldwide has independently negotiated and rates of remuneration are fixed so as to maintain a 50:50 share of profits. The relevant Paras from the Agreement are reproduced below: “…4.2 The Principal shall pay the remuneration to the agents at the rates so agreed, in accordance to this agreement (Clause 5.2)… …5.1. Payment of collect freight less Profit share will be settled as agreed mutually by both the parties… …5.2. Profit share between the Principal and Agent shall be on a 50/50 basis and it shall be calculated only on the sea freight or airfreight, irrespective of whether freight is prepaid or collect…”

assessee and overseas agent share the profit after the expenses incurred in India. Accordingly the assessee does not deduct the TDS as no service in India and no income accrued or arose in India. The assessee engages the airlines, shipping lines and local transport in India and not as overseas agent. Similar procedure is followed when some overseas agents require import of the goods from India. In our considered view we find from the facts that there is no agent and principal relationship between the assessee and overseas entities and vice versa. Merely the word used in the 'agency' in the agreement does not amount that there exist the relationship of agency…”

 AEs do not exercise any control over the activities performed by the Appellant Also, the expression ‘any sum chargeable under this Act’ under Section 195 of the Act states that sums payable to non-resident is not liable to deduct tax if such sum is not chargeable to tax. This view has been upheld by the Hon’ble Delhi High Court in the case of Van Oord ACZ India (P) Ltd. vs CIT, 323 ITR 130; and by Hon’ble Supreme Court ruling in the case GE India Technology Cent. (P) Ltd (2010); 327 ITR 456. The Hon’ble Supreme Court has held that person paying interest or any other sum to non-resident is not liable to deduct tax if such sum is not chargeable to tax. Thus, in the absence of any ‘business connection, there was no obligation on the Assessee to deduction tax u/s 195 of the Act and thus correspondingly no disallowance could be made u/s 40(a)(i) of the Act.

4.2 At the outset, it is to be noted that the sums were paid by way of expenses to non-resident third parties who had rendered services to the assessee. These payments therefore fall within the purview of section 9(1)(vii) and are therefore taxable in India as fee for technical services. 4.3 The contention of the assessee that the payment made is reimbursement against actual expenses, and therefore not chargeable to tax is not acceptable. 4.5 To reiterate, the taxation of fee for included services/royalties/included services is not on net basis, had it been so, out of the receipts, such expenses would be required to be deducted for computing the net income and such income would be taxable at the normal higher rate of tax (as opposed to the rates of TDS). 4.6 The assessee has taken the plea that there is no income embedded in the payment made. However, in that case, taxability of the receipt in the hands of the foreign company to whom the payment has been made by the associated enterprises at the instance of the assessee is material and not that of the associated enterprises. Therefore, it is the statutory provision which would determine the liability of the assessee in this regard and not an internal arrangement made by the assessee”.

residents. The assessee could not submit a satisfactory reply in support of its claim and disallowance was accordingly made. On this issue also the claim of the assessee needs to be rejected as the assessee did not discharge the onus comfort on it under section 195(1) of the Income Tax Act, 1961 which was mandatory. In view of the above, the claim of the assessee needs to be rejected and the additional evidence submitted during the course of appellate proceedings are not sufficient for the claim of the assessee.”

“The Assessee carried out certain transactions during the year under appeal with overseas JAS Group of Companies and other domestic entities. In this regard, JAS Group of Companies incurred certain expenses totaling Rs.21,58,139/- ·on behalf of the Assessee which were later on recharged by its associates on cost to cost basis. The nature of such expenses are discussed below:- (i) Reimbursement of Server Maintenance Cost amounting to Rs. 13,780:-Here, the expenses only represented proportionate expenses incurred by the AE for the maintenance of server 33 from time to time. An overseas server had been set up to run the business efficiently, which is shared and maintained by Jas Forwarding Worldwide Pty Ltd, Australia (Hereinafter referred to as 'Jas Australia'). Expenses are required to be incurred for the maintenance -of server from time to time; therefore, Jas Australia incurred the expenditure by giving the contract of such maintenance to a third party, which were agreed to be shared between the parties. Accordingly, Jas Australia raised the bill of reimbursement of expenses on the Assessee towards its share. (ii) Reimbursement of Netting Charges amounting to Rs.1,99,089:- The expenses only represented proportionate expenses incurred by the AE to avail financial settlement services from network services from server situated outside India. In order to carry out its business activities smoothly within India and outside India, the Assessee avails the network of more than/around150 offices set by the JAS Group globally. The settlement of all the financial transactions incurred between all the members of the JAS Group is handled by a single clearing account, i.e. all the receivable and payables within the Group Companies are handled on the single desk by Jas Worldwide management LLC located at Atlanta, USA, wherein full fledge procedures and software in relation to carry out operation, communications and other matters is set up, so that all the transactions are set out smoothly. It is submitted that in respect of both the netting charges and management expenses, referred to above, the Assessee has not "made available" any technical knowledge, experience, skill, know- how, or processes, or the alleged services does not consist of the development and transfer of a technical plan or technical design and mere rendering of services is not roped in unless the person utilizing the service is able to make use of the technical knowledge etc by himself in his business or for his own benefit and without recourse to the performer of the services in future. In our case, the services rendered are not left with the Assessee but it is a mere reimbursement of expenses incurred by non-residents on the activities performed by it. For all the said activities, netting centre at USA incurred some cost which they distributed amongst the netting participants, i.e. members of the Group Companies and accordingly the Assessee was required to reimburse its portion of the expenses. (iii) Reimbursement of Management Expenses amounting to Rs. 10,12,859:Jas Worldwide Management LLC, situated in Atlanta, USA perform administrative, business development activity for common interest of the JAS Group which in-turn help the entities to grow their businesses. In this procedure, they incur some cost which they allocate within the group members which are benefited by the said activity, directly or indirectly. The Assessee was also charged its share of expenses, for which the Assessee made the payment. Further, the expenses only represented proportionate expenses incurred by the non-resident to avail administrative, business development activity.

(iv) Reimbursement of Traveling Cost amounting to Rs.1,18,328:The said expenses were incurred by the Assessee on behalf of the non-resident on account of local air tickets of foreign delegates coming to India. The same was cross charged by the Assessee to the respective non- resident during the year. However, during the assessment proceedings, when the Assessee provided the details of the payments made to the non-residents, the above travelling cost, which was in fact receivable from the non- resident was inadvertently included as payable in the list. Since the same was received/receivable by the Assessee, therefore, in any case, it does not come within the ambit of section 195 of the Act as no sum was payable to a non- resident, therefore, no· disallowance can in any case be made. (v) Reimbursement of NVOCC Insurance Expenses amounting to Rs.7,55,655:- The Appellant is engaged in the business of International freight forwarding, wherein, the goods of customers is required to be transferred from origin to destination, by moving shipments from one point to other internationally, therefore, there is always a risk of something untoward happening during the transit. To cover up this risk, the Appellant need an insurance cover for the goods transmission, for which Jas Group take a joint cover from an International Insurance company and allocate the cost on basis of risk/business involved to the member companies. The Appellant made the payment of its share of insurance expenses to Jas Forwarding (USA) Inc, USA.

Further, the expenses only represented cross charge of group insurance. (vi) Reimbursement of NVOCC Tariff Filing Expenses amounting to Rs. 58,428 -It pertained to the payment made by the Assessee to JAS Forwarding (USA) Inc. for the amount charged towards payment made on behalf of the Assessee for filing freight tariff to USA.

 No opportunity of being heard given to Assessee while making the above disallowance under section 37(1).  Without prejudice to the above, it is respectfully submitted that while applying the test of commercial expediency for determining whether expenditure was wholly and exclusively incurred for the purpose of business, reasonableness of expenditure has to be adjudged from the point of view of the business and not of the revenue.  The transactions have been scrutinized in various year by the TPO under the provisions of section 92CA (3) and have been held to be at arm’s length for the relevant year and no adverse inference has been drawn.  Assessee placed reliance on the following judgments- Case Law Citation DLF Commercial Project Corporation 379 ITR 538 Walchand & Co. Private Limited 65 ITR 381 J.K. Woolen manufactures Limited 72 ITR 612 EKL Appliances Limited 24 taxman 199