SPENCER STUART INETRNATIONAL BV,MUMBAI vs. ADDL CIT (IT) 4(2), MUMBAI

Order u/s.254(1)of the Income-tax Act,1961(Act) लेखा सद�य लेखा सद�य, राजे�� राजे�� केकेकेके अनुसार अनुसार -PER RAJENDRA, AM- लेखा लेखा सद�य सद�य राजे�� राजे�� अनुसार अनुसार Challenging the order of the Assessing Officer(AO),passed u/s.143(3) r.w.s. 144C(13) of the Act,in pursuance of the Directions,dtd.23.12.2014 of the Dispute Resolution Panel(DRP)-IV, Mumbai,the assessee has filed the present appeal.The assessee,engaged in the business of executive search service as well as providing technology,software and related support services group companies,filed its return of income,on 28/11/2011,declaring total income at Rs.3.92 crores.The assessment was completed on 23/01/2015,determining its income at Rs. 10.02 crores.It is a tax resident of Netherlands. 2.Vide its letter,dtd.27/03/2017,the assessee made a request to admit additional evidence as per the Rule 29 of the ITAT,Rules,1963.It has been stated in the application that the issue for consideration for the year under appeal related to taxability of Executive Search Services fees received by the assessee from Spencer Stuart India Limited(SSIPL)under the head Fees for Technical Services(FTS),that SSIPL had entered into an APA with the on 30/08/2016,that the international transaction of receipt/payment of executive service fee and payment of licence fee between SSIPL and its AE would be governed as per the APA, that the document was very important to adjudicate the issue, that same did not require fresh investigation of the facts.

1696/M/15-Spencer Stuart International B.V.

During the course of hearing before us,the authorised representative(AR)reiterated the arguments that are part of the application.The departmental representative(DR)left the issue to the discretion of the bench.We have gone through the APA,submitted by the assessee. In our opinion the APA along with its annextures is crucial to decide the issue.Therefore,we admit the same. 3.First effective ground of appeal(Gs.OA2-2.2)is about Executive Search Fees (ESF), amount -ing to Rs.5.39 crores.During the assessment proceedings,the AO found that the assessee had entered in to two agreements with Spencer Stuart India Limited(SSIPL)namely i).License Agreement (LA)and ii).Service Agreement(SA)on 01.01.2006,that during the year it received Rs.5.39 crores towards ESF under the SA,that the same was not offered for taxation claiming that the receipt was not taxable in absence of a permanent establishment (PE)of the assessee in India.It was claimed that ESF was not taxable as Fee for Technical Services(FTS)in view of Article 12(5)of the DTAA.However,the AO did not agree with the assessee.He passed a draft order on 14.03.2014 taxing ESF. 3.1.Aggrieved by the order of the AO,the assessee filed objections before the DRP and made detailed submissions.After considering the draft order and the objections of the assessee,that DRP referred to the clause(bb)to Article 3 of the LA and held that as per the agreement,the licensee was under obligation to agree to the terms and conditions relating to search assign - ment,that the entire process of search assignment and fees thereon was to be consistent with the licensor’s policies,that the terms and conditions relating to the ESF was inbuilt in the LA itself. Referring to the SA,the DRP observed that the parties had entered into an agreement to provide support and services to each other on principal to principal basis for all cross-border search assignment transactions,that it allowed the non-resident AE to administer the alloca - tion of fees and necessary adjustment to such fees to reflect properly the relative value of each member’s economic contribution to cross-border search business,that as per Article (2a) (ii) on all cross-border executive assignments SSIPL was bound to request the AE to provide services,that the agreement proved that licensee was bound to execute all cross-border executive assignments only through the AE, that the obligation flowed out of the LA,that the licence fee was being paid by Indian entity, that the same was in the nature of FTS and was taxable in India,that the obligation on the part of the licensee to execute all cross-border executive assignments to the assessee was inbuilt on the signing of the LA,that as per sub clause 2(a)(iv)of the SA the referral fees equal to 12.5% of origination and 12.5% of 2 1696/M/15-Spencer Stuart International B.V. conversant,with a maximum amount of 25% had been mandated on a particular assignment, that it was a confirmation of the referral fees on search assignments which had been mandate -ed in the license agreement,that the amount of fees payable on account of search assign - ments had been provided in the LA itself,that the mutually agreed costs for certain services provided in Article (2) (a) (iv) of the SA was a confirmation of the costs for the same services enshrined in Article 3(bb) (iii) of the LA,that the terms and conditions in the SA relating to education of search assignment and payment of such fees to the assessee was part and parcel of the LA,that the same were ancillary and subsidiary to the application or enjoyment of the right/property/information for which royalty was received by the assessee,that the arrange - ments under the LA and SA were not separate arrangements as claimed by the assessee, that the SA merely confirmed and elaborated what was provided in the LA,that the SA flowed out of the LA that the Indian company had no liberty with regard making payment of licence fee in form of royalty to the assessee,that the LA and the SA were nothing but a set of related contracts that the person performing the services was the same person receiving the licence fee which was admitted by the assessee to the nature of royalty. It made a reference to Article 12(5)of the India Netherlands tax treaty and held that the search fee qualified as fee for technical services in terms of Article 12(5),that the same was ancillary and subsidiary to royalties,that the activity of earning search fee was a major activity of the assessee,that it was only by virtue of the LA that the search fee from the Indian entity arose to the assessee,that it was only on account of the obligation cast upon the Indian company under the LA that it was bound to execute all cross-country search assignments through Netherland entity,that it was only on account of search assignment that the AE would earn the such fees,that the search fees received by the assessee was ancillary and subsidiary to the royalty i.e. licence fee, that it was not relevant whether the search fees received by the assessee was higher than the licence fee,that in reality both the licence fee and search fee and by the assessee under the LA were in nature of royalty which was taxable in India, that the search fee of Rs.5.39 crore received from Indian entity by the AE was nothing but fee for services which were ancillary and subsidiary to the application or enjoyment of the right/ property /information for which a payment ,described in Article 12 of the tax treaty, was received. Finally,rejecting the objections filed by the assessee,it held that fee of Rs.5,39,62,507/-was taxable in India. 3..Before us,the Authorised Representative(AR)stated that during the assessment proceedings,the assessee was asked as to why it should not be taxed as per the provisions of 1696/M/15-Spencer Stuart International B.V.

Article 12(5)of the DTAA,that no other query was raised,that the payment and receipt of the multi country execution fee was based on a global shared revenue allocation model which was developed for Spencer Stuart group and all operating entities in the group were covered under the same model,that the shared revenue allocation model was used to allocate the revenues from global searches for consistency with the costs put by the Spencer Stuart entities into those searchers,that having regard to the nature of Spencer Stuart's business, Profit Split Method was treated the most appropriate method,that the principal business of Spencer Stuart group was provision of professional services pertaining to executive search, that receipt of search fee by the assessee was independent of license fees, that the assessee could continue to earn search fees,even in the absence of license fees,that the services which were ancillary and subsidiary to the use of license/trademark/software were provided for in the LA and had no correlation with the SA, that the inclusion of the sharing clause in the LA merely reinforced the nature of services being rendered and modality adopted for sharing such revenue,that in no way it would change the character of the services,.He referred to Advance Pricing Agreement(APA) entered between SSIPL and the Government of India.He referred to recitals of service agreement and contended that it was principle to principle basis,that it had no relation with licence agreement.He made a reference to pages 240 and 241 of the paper book and Article 12(4)of India Netherland tax treaty.He stated that one agreement was about granting licence and the other talked of head hunting and technology transfer,that the DRP had wrongly mixed the two agreements,that the assessee would receive service fee based on royalty,that arrangement was other way round and that the same was not appreciated in right perspective, that the it was to receive licence fee @13.5%,that brand fee was considered by the DRP while passing the directions,that global business of Indian entity was ignored,that fee included initiation,maturing and execution.He referred to pg.3 of the APA application.He also referred to the order passed u/s.201(Pg.306-8of the PB.)of the Act for the subsequent year wherein the issue of service fee was dealt with.He further argued that the contention of the assessee was accepted by the AO in the earlier AY.s(AY.s.2008-09 and 2009-10),wherein it was held that search fees was not ancillary and subsidiary to the LA. The Departmental Representative (DR)strongly relied upon the direction of the DRP and stated that both the agreements were part and parcel of the same transaction, that the search fees received by the assessee was ancillary and subsidiary to the royalty. 3.2.We have heard the rival submissions and perused the material on record. We find that the assessee had entered into a LA with SSIPL whereby it granted license to SSIPL to use trade - 1696/M/15-Spencer Stuart International B.V. name,trademark,logos of 'Spencer Stuart' and the rights to use software owned by it as well as certain other support services,that in lieu of the rights provided to SSIPL it was entitled to a license fee computed at 13.5% of the net revenues of SSIPL,that the license fee amounting to Rs.3,85,47,171/- received by the assessee from SSIPL,as per the LA,was offered to tax as royalty as per the provisions of the Act r.w.Article 12(4) of the India-Netherelands DTAA, that it had also entered into a SA whereby, both SSIPL and the assessee agreed to provide,on a principal to principal basis,support and services to each other in relation to executive search assignments(Pg.123A-123F of the PB),that the assessee,also received Rs.5.39 crores towards ESF provided by the it to the Indian AE,as per the SA,that it claimed that the search fee was in the nature of business income and was not taxable in India in the absence of a PE in India. that it also claimed that the search fee was not taxable as FTS in view of Article 12(5) of the DTAA,that the AO in his draft assessment order proposed to tax the search fees under Article 12(5)(a) of the DTAA,that the DRP upheld the draft assessment order. In our opinion,license fees and search fees are governed by separate and distinct agreements entered into by the assessee and SSIPL and they would constitute different sources of its income for the year under consideration.In other words,receipt of search fee by the assessee was independent of earning the license fee.As per the SA search fees was to be determined on the basis of relative contribution of each party,which menas in a given situation, SSIPL could also receive search fees from the assessee.But,same was not true for licence fee.The assessee had not to pay anything to SSIPL as licnece fee.ESF were independent services and were not provided for the purpose of enjoyment/application of right,property etc. governed by the LA. Services, ancillary and subsidiary to the use of license / trademark/software are provided for in the LA and same had no correlation with the SA.It is safe to say that the DRP had wrongly held that SA was originating from LA.Core business of the group was to identify,to evaluate and to recruit of senior personnel for a fee.If is found that to carry out the search function, SSIPL would employ consultants, who were supported by researchers,knowledge managers and support staff.As per the Memorandum of Association (MOA) of SSIPL (Pg. 288-293 of the PB.),the principal business of SSIPL was to carry out or execution of executive searches and therefore, the ESF cannot be treated as ancillary/subsidiary to the LA.In fact,license fees was a percentage of the search fees earned by SSIPL from the executive searches done during the year. We also hold that for a service to be categorised as FTS it should make available technical knowledge, experience, skill, know-how, or processes,or it should consist of the development 1696/M/15-Spencer Stuart International B.V.

/transfer of a technical plan or a technical design,in terms of Article 12(5)(b)of the DTAA.It is also observed that that the DRP had relied on the inclusion of the sharing clause(clause (bb) to Article 3)in the LA to arrive at the conclusion that the terms and conditions of the SA are part and parcel of the LA.But,we find that the departmental officers have not given any reasoning that could lead to the fact that SA was ancillary in nature to the LA.We find that the FAA his orders,dated 16/09/2016,for the AY.s. 2012-2013 to 2014-15,in context of the proceedings u/s 201 of the Act,has decided the identical issue in favour of SSIPL and has held that search fees remitted by SSIPL to the assessee did not represent fees for technical services under Article 12(5)(a) of the India-Netherlands DTAA and was not subject to TDS u/s.195 of the Act.We find that the FAA has referred to the APA entered between SSIPL and the Government of India.As per the APA,a separate benchmarking has been laid down for the international transaction of License fee and ESF.As per paragraph 5 & 6 of the APA,the Most Appropriate Transfer Pricing Methods for the covered transactions shall be Profit Spirt Method(PSM)for payment and receipt in relation to Cross-border executive search transact - tion and Comparable Uncontrolled Price(CUP)method for Payment of License fees transact - tion. Considering the above,we are of the opinion that the search fee and license fee were distinct from each other and that the search fee received under the SA was independent of the LA and was not taxable in India as FTS under Article 12(5)(a)of the DTAA.It is a fact that in earlier years the AO himself had held that fees under the both the agreements were separate and that only licence fees was taxable.So,we have no hesitation in holding that the search fee could not be treated to be ancillary and subsidiary to LA,that the same did not in any way aid, promote or supplement the application or enjoyment of the right, property, or information, that the search fee received under the SA was independent of the LA and was not taxable in India.First effective ground of appeal is decided in favour of the assessee. 4.Next ground of appeal is about treating a sum of Rs.70.36 lakhs reimbursed to the assessee by the Indian entity for expenses incurred on its behalf at cost as taxable.It was found that the assessee had claimed to have received reimbursement of expenses of Rs.70,36,915/-from SSIPL under the heads marketing services(Rs.15.02 lakhs),insurance coverage(Rs.26.27 lakhs),software license expenses(Rs. 5.95 lakhs),fixed assets purchased (Rs. 16.58 lakhs)IT support services(Rs. 6.2 lakhs),postseason delivery charges and miscellaneous expenses (Rs. 28,506/-).It was claimed that the amounts received by it were purely in the nature of reimbursement of expenses and could not be treated as income.

1696/M/15-Spencer Stuart International B.V.

However,the AO after receiving the directions of the DRP held that search fees were to be treated as fees for technical services under Article I2(5)(a) of the DTAA,that the reimburse - ment of expenses was also to be taxed as FTS 4.1.Before us,the AR stated that the assessee had incurred various expenses on behalf of the Indian entity,that it was a pure case of reimbursement,that reimbursement was connected with service agreement(Pg.123B and 123C of the PB).He referred to paragraphs 2.1.4 and 2.1.5 of the agreements and stated that money received by the assessee was not FTS,that at page 134 of the PB was exact computation of the reimbursement, ,that clauses 2(a)(i) to 2(a)(v) of the SA defined the scope of the search services,that clause 2(a)(v) of the SA (Pg.123B of the PB.)provided that the reimbursement related to search services would form part of the search fees,that the SA provided that the assessee could from time to time incur certain expenses on behalf of SSIPL and would separately bill the same,that the disputed expenses were not part of search services and hence the same were not related to search fees,that the reimbursements under consideration did not form part of paragraph 2(a)(v) of the SA ,some of them are covered by paragraph 2(a)(vi) of the SA.He further stated that while completing the assessments for the AY.s.2009-10 and 2010-11,the AO had not taxed the similar amounts..He relied upon the case of A P Moller (392 ITR 186).The DR supported the order of the AO. 4.2.We find the assessee had received payments from SSIPL towards reimbursement of expenses amounting to Rs.70,36,912,that the expenses reimbursed to the assessee by SSIPL were mainly towards travel and stay, video conferencing charges, insurance, reimbursement for purchase of fixed assets and other miscellaneous expenses,that the reimbursement of the expenses were supported by third-party invoices,that the reimbursements related to service agreement between the assessee and SSIPL for sharing the company services,that the services provided by the assessee were purely passed on as reimbursement of actual cost without any markup.We hold that marketing services are primarily in the nature of travel and stay abroad for Indian employees visiting overseas for global meetings,that Insurance coverage for employees is totally unrelated to search fees,that reimbursement of software license cannot be linked to search fees,that the QUEST NT software formed part of LA and the license fees were already offered to tax as royalties.,that a confirmation letter dated 6/3/2014 submitted to the AO by SSIPL pertaining to purchase of fixed assets amounting to Rs.16,58,018 is part of the PB.In our opinion,reimbursement of expenses would not constitute FTS as per Article 12 of the tax treaty.

1696/M/15-Spencer Stuart International B.V.

Here,we would also like to refer to the judgment of AP Mollar(supra).Facts of that case were that the assessee was a foreign company engaged in shipping business and was a tax resident of Denmark,that it had agents working for it, who booked cargo and acted as clearing agents for the assessee,that in order to help all its agents across the globe, the assessee had set up and maintained a global telecommunication facility called Maersk net system which was a vertically integrated communication system. The agents would pay for the system on pro rata basis. According to the assessee,it was merely a system of cost sharing and the payments received by the assessee from its agents in India were in the nature of reimbursement of expenses.The AO, however,did not accept this contention and held that the amounts paid by these three agents to the assessee were FTS rendered by the assessee and held them taxable in India under Article 13(4)of the Double Taxation Avoidance Agreement(DTAA)between India and Denmark and brought them to tax at 20% u/s.115A of the Act.FAA dismissed the assessee’s appeal,but the Tribunal allowed its further appeal.The Hon’ble High Court dismissed the Department’s appeal holding that the Tribunal had rightly observed that the Maersk-net-communication-system was an automated software based communication system which did not require the assessee to render any technical services,that it was merely a cost sharing arrangement between the assessee and its agents to efficiently conduct its shipping business,that it was part of the shipping business and could not be captured under any other provisions except under the DTAA.The Hon’ble Supreme Court,dismissing the appeal held as under: “……. the facts that the assessee had its information technology system, that the assessee had appointed agents in various countries for booking of cargo and servicing customers in those countries, preparing documentation, etc., through these agents, that for the sake of convenience of all these agents, a centralised system was maintained to avoid unnecessary cost, that the system comprised booking and communication software, hardware and a data communications network and was, thus, an integral part of the international shipping business of the assessee and ran on a combination of mainframe and non-mainframe servers located in Denmark, that the expenditure incurred for running this business was shared by all the agents and that the systems enabled the agents to co-ordinate cargos and ports of call for its fleet were findings of fact. Once these were accepted, by no stretch of imagination, could the payments made by the agents be treated as fees for technical services. The payments were in the nature of reimbursement of cost whereby the three agents paid their proportionate share of the expenses incurred on these said systems and for maintaining those systems. Neither the Assessing Officer nor the Commissioner (Appeals) had stated that there was any profit element embedded in the payments received by the assessee from its agents in India. Once the character of the payment was in the nature of reimbursement of the expenses, it could not be income chargeable to tax.Moreover, freight income generated by the assessee in the assessment years in question was accepted as not chargeable to tax as it arose from the operation of ships in international waters in terms of article 9 of the DTAA. Once that was accepted and it was also found that the Maersk net system was an integral part of the shipping business which was allowed to be used by the agents of the assessee as well in order to enable them to discharge their role more effectively as agents, and the business could not be conducted without it, it could not be treated as any technical services provided to the agents.”

1696/M/15-Spencer Stuart International B.V.

Considering the above,we decide second ground of appeal in favour of the assessee. 5.Last ground of appeal is about short credit of TDS of Rs.70,567/-.The AO is directed to verify the facts and allow credit if the claim made by the assessee is found to be factually correct. Last ground stands partly allowed.