DCIT, DEHRADUN vs. M/S. ION GEOPHYSICAL CORPORATION, GURGAON

PER S.V. MEHROTRA, A.M:

The captioned stay petition and the cross appeals, preferred by the assessee as well as the revenue, arise out of assessment order dated 29.01.2015 passed by the AO u/s 143(3)/148/144C(13), pursuant to DRP directions u/s 144C(5) of the Income Tax Act, 1961, relating to AY 2008-09. All these matters were heard together and are being disposed of by this composite order for the sake of convenience. 2. Brief facts of the case are that the assessee company, a tax resident of USA, was engaged in the business of manufacture and sale of equipments, used in the seismic industry. The products included cable based/ cable less and radio controlled seismic data acquisition systems, digital and analog geophone sensors. Vibroseis, vehicles and source controllers for detonator and vibrator energy sources. 2.1. During the year under consideration, the assessee was engaged in execution of contract with M/s ONGC Ltd. vide contract no. MAT/IMP/E-II/3(2735)/2005- 06/ZA23LO6004 dated 3.1.2006. The contract was for supply order wireline distributed telemetry data acquisition systems including sensors placed on M/s Input & Output Inc., Texas, USA (old name of assessee). 2.2. Under this contract, the assessee had made supplies to ONGC of equipment, material, general stores and services, as specified in Annexure 1 of the contract, which had been specifically mentioned in the contract. 2.3. As per the contract, certain indigenous items were also to be supplied in respect of each unit supplied by the assessee. These items were procured and supplied from India to ONGC at its various locations. The contract also included

installations and commissioning of equipment supplied along with necessary hardware and software by third party in respect of both indigenous and foreign items, provision of training to the employees and engineers of ONGC at supplier’s premises in USA and followed by training at ONGC site at Dehradun, Jorhat and Kolkata. 2.4. The assessee company had filed return of income declaring Nil income for AY 2008-09 and had not offered any revenue/ receipts from the contract during the FY 2007-08 relevant to AY 2008-09. However, in the return filed for AY 2009-10, which came under scrutiny, assessee had offered revenues earned on account of installation and inspection amounting to US $ 88613 under the provisions of section 44BB and DPR of 10% and had offered training component given to ONGC engineers in India at US $ 146058 as per provisions of article 12 of DTAA at 15% gross. Thus, in AY 2009-10, the assessee had not offered to tax the supply of goods from the outside India under the claim that income had not accrued/ arisen or deemed to accrue or arisen in India of such sales of goods. The training receipts in respect of training imparted at assessee’s premises had also not been offered to tax. Therefore, notice u/s 148 was issued on 29.10.2012 requiring the assessee to file its return of income for AY 2008-09. The assessee vide its reply dated 11.12.2012 stated that return filed originally on 9.9.2009 may be treated as return in response to notice u/s 148. 2.5. The AO after disposing off the assessee’s objections in regard to the reasons recorded, analyzed the contract and concluded that it was a composite contract given on trunkey basis and the off shore supply of the equipment was nothing but essential material required for execution of the project, which was shown to have been supplied by the assessee to the ONGC to bring the same to India for use by the assessee itself for the purposes of execution of the subject contract. He computed the income @ 25% as under:

Total receipts as worked out above USD 6,05,10,926 Converted in INR @ Rs. 49 per ROI Rs. 295,50,35,374/- Income @ 25% as discussed above Rs. 74,12,58,844/- Total income rounded off Rs. 74,12,58,840/-

2.6. Ld. DRP approved the AO’s draft order, but directed for computing the profits attributable to PE @ 15%. Being aggrieved, both the assessee as well as the department are in appeal before us. Assesse’s appeal (ITA no. 1607):

holding that the Appellant has a Permanent Establishment ("PE") in India, ignoring the fact that - (a) The Appellant has entered into a pure supply contract with installation and other services incidental to such supply. (b) Even if it is assumed that it is not a pure supply contract, it should be considered as a divisible contract with consideration against supply, installation and training separately identified. (c) Even if it is assumed that contract with ONGC is composite in nature, the taxability of various income streams should be determined separately. (d) The Appellant does not have a PE in India; No facts were brought on record by the AO to establish the existence of PE. (e) In the absence of the Appellant having a PE in India, the consideration from contract with ONGC is not taxable in India. (f) Without prejudice to above, even assuming (though not conceded) that the Appellant has a PE in India, the Ld. AO/Ld. DRP has failed to bring any material on record which could substantiate that the income from contract with ONGC is attributable to the alleged PE. 4. That on the facts and in the circumstances of the case and in law, the Ld. AO/ Ld. DRP has erred in taxing the off- shore supplies in India. 5. That on the facts and in the circumstances of the case and in law, the Ld. AO/ Ld. DRP has erred in taxing the on- shore supplies in India 6. That on the facts and in the circumstances of the case and in law, the Ld. AO/ Ld. DRP has erred in taxing the consideration for installation and inspection activities in India 7. That on the facts and in the circumstances of the case and in law, the Ld. AO/ Ld. DRP has erred in taxing the consideration for training services. 8. That the Ld. AO/ Ld. DRP has failed to provide plausible explanations for rejecting the arguments of the Appellant regarding non-taxability of various income streams.

4.1. Ld. counsel pointed out that return for AY 2008-09 was filed on 9.9.2009 at Nil income, which was processed u/s 143(1). However, for AY 2009-10, assessee had offered revenue from training and installation but no income was offered for off shore supply and services. Assessment was completed u/s 143(3). In this assessment it was held that assessee was having a PE in India and supply was liable to tax on the ground that it was a composite contract. 4.2. Thereafter, matter travelled before ld. DRP, which held that the supplies took place in FY 2007-08 and not in FY 2008-09 and, therefore, the additions were to be made in AY 2008-09. Accordingly, notice u/s 148 was issued. He submitted that it is a case of change of opinion. 5. Ld. CIT(DR) submitted that granting of certificate u/s 195 cannot be equated with assessment proceedings, because that is purely administrative act and has no bearing on the final assessment to be made. 6. Before we proceed to decide this issue, we may point out that assessee filed an application for admission of additional ground on the ground that DRP had abstained from giving any finding on reassessment proceedings. However, in course of haring, he did not press this ground. 7. We have considered the submissions of both the parties and have perused the record of the case. In our opinion, the order passed u/s 195 only prima facie determines the income chargeable for the purposes of TDS. This cannot be equated with assessment proceedings u/s 143(3). It is only in case where AO has formed an opinion while framing assessment u/s 143(3) that reassessment proceedings cannot be initiated on mere change of opinion. We, therefore, do not find any merit in the technical objection raised by assessee on initiation of reassessment proceedings. In the result ground no. 2 is rejected. 8. Ground nos. 3 & 4: Now coming to the merits of the case, the first aspect which is to be decided is whether it was a composite contract, as held by

AO, or a pure supply contract or a divisible contract, as claimed by assessee. As per the contract, contained at page 68 of PB and as noted by ld. DRP, the assessee company had to supply the following equipments: S. Description of goods Price (in No. USD) 1 4 units of complete 3D data acquisition analog 2000 10,483,172.92 channels system along with all necessary modules 2 2 units of complete 3D data acquisition analog 3000 6,959,453.98 channels system along with all necessary modules 3 1 unit of complete 3D data acquisition analog 4000 4,328,930.47 channels system along with all necessary modules 4 2 units of complete 3D data acquisition digital 2000 7,966,969.47 acquisition points (AP) system along with all necessary modules 5 2 units of complete 3D data acquisition digital 3000 11,169,995.90 acquisition points (AP) system along with all necessary modules 6 2 units of complete 3D data acquisition digital 3000 14,270,065.90 acquisition points (AP) system along with all necessary modules 7 1 unit of complete 3D data acquisition analog system with 4,643,827.73 4000 channels for Transition Zone along with necessary modules Total 59,822,416.80

8.1. The assessee company also required to provide off shore and on shore training installation and third party inspection. Details of consideration for such services against each of the items mentioned in the above details were as under: S. Off-shore Installation On-shore Inspection Service Total No. Training Training Tax 1 100,000 2,000 42,856 24,000 4,000 172,856 2 50,000 1,000 21,429 12,000 1,000 85,429 3 25,000 500 10,714 6,000 250 42,464 4 50,000 1,000 21,429 12,000 1,000 85,429 5 50,000 1,000 21,429 12,000 1,000 85,429

6 50,000 1,000 21,429 12,000 1,000 85,429 7 25,000 500 10,714 6,000 250 42,464 Total 350,000 7,000 150,000 84,000 8,500 599,500

8.2. In addition to this, the assessee company was also required to supply indigenous goods value of US $ 589010. The total supply (US $ 59822417 + US $ 589010 and services US $ 589500) amounted to US $ 61010927. The summarized break up of consideration under the contract with ONGC was as under: Particulars Amount (in USD) Supplies -Off-shore 59,822,416.80 -On-shore 589,010.00 Total (A) 60,411,426.80

Services - Training (Off-shore) 350,000 - Training (On-shore) 150,000 - Installation 7,000 - Inspection 84,000 Total (B) 591,000

Service tax © 8,500 Total consideration (A+B+C) 61,010,926.80

8.3. Ld. counsel referred to page 69 of PB to demonstrate that the contract was labeled as supply/ purchase order. 8.4. Ld. counsel further referred to page 71 of the PB wherein the delivery/ completion period is given, which reads as under: Delivery/ Completion Period

- Within 120 days from LOA: 2 units for Frontier Basin (FB), Dehradun except hydrophones of units pertaining to Frontier Basin, Dehradun - Within 150 days from LOA: 4 units for Geophysical Services (GS), Baroda (WR) and hydrophones of 2 units of Frontier Basin(FB), Dehradun - Within 180 days from LOA: 3 units for GS, Chennai (SR) - Within 210 days from LOA: 2 units for GS-Kolkata (CR) and 3 units of GS, Jorhat (ER)

ii. Installation, Commissioning and Acceptance: Within 30 days for all the systems pertaining to each ultimate consignee from the date of receipt of intimation by respective ultimate consignee. The intimation will be sent by Head, Geophysical Services of concerned work center after receipt of all the items of telemetry systems belonging to that site to the supplier (i.e, M/s Input/ Output Inc., USA). b. Trainings: i. At Supplier's premises. USA: Supplier will impart training to 14 Geophysicists of ONGC for a period of four (4) weeks and 14 Engineers for a period of six weeks. Training will be completed before completion of delivery (dispatch) of all the systems. The schedule of training is given at Appendix-IM.

ii. At five sites of ONGC in India Supplier will impart one training each for Geophysicists and Engineers for a period of 2 weeks each at ONGC-Jorhat, Chennai.Baroda, Kolkata and Dehradun for a batches of maximum of R Geophysicists & 8 Engineers for each site. The training will be completed during installation and commissioning of the systems at the concerned site.

8.5. He further referred to page 72 of the PB, wherein terms of delivery are contained, which are reproduced hereunder: “For imported items to airfreight : FCA, Dubai Airport. UAE For imported items to be sea-freighted: FOB, Dubai Seaport For indigenous items to be supplied from India: FOR destination BarodaiJorhatlChenoailKolkata1Dehradun (depending upon the destination) ONGC reserves the right to change terms of delivery for sea- freighted items from FOB to C&F basis on the basis of sea- freight amounts quoted by M/s Input-Output, USA in his offer”.

8.6. With reference to these terms of delivery, ld. counsel submitted that it is evident that right to property in the items passed in Dubai and not in India. 8.7. Ld. counsel further referred to page 75 of the PB, wherein terms of payments are contained, which are reproduced hereunder: 14.1 90% payment of ordered value of imported material through irrevocable Letter of Credit, valid for a period of 210 days for shipment and additional IJ days fur negotiation of documents. The payment shall be made against proof of dispatch and production of other relevant documents as mentioned at clause 17 of this purchase order. Part payment will be allowed for the value of the units mentioned for each consignee/user provided the complete items meant for each consignee/user are shipped/air-freighted. The supplier @ would present the documents for negotiations for the value of complete units consignee-wise after the same are shipped/air- freighted.The Letter of Credit will be opened by Manager(F&A)-KDMIPE, ONGC, Dehradun. The LC will be established in favour of supplier in any prime bank in USA. 14.2 Payment of balance 10% of ordered value of imported items, 100% value of installation & commissioning charges, 100% value of indigenous items and 100% training charges through separate irrevocable letter of credit, after satisfactory completion of installation, commissioning, acceptance and training as per provisions of supply order. The payment will be

made against presentation of following documents by supplier through their bank to State Bank of India, Tel Bhavan Branch, Dehradun-248 003 (India) : a) Invoice as per supply order, in triplicate, drawn in the name of Oil & Natural Gas Corporation Ltd. and duly manually signed by the supplier or his authorised representative b) Quality control certificate issued jointly by Head- Quality Assurance and Indentor of concerned region. c) Certificate of TPI for each system as per para 10.1 (b) above. d) Original Certificate(s) of satisfactory installation, commissioning, acceptance issued by Head, Geophysical Services or his auth. Rep. of concerned site. e) Certificate of satisfactory completion of training (in India & at supplier's premise); at USA) by concerned Indentor or his auth. representative. 14.3 All foreign Bank Charges towards advising negotiations/cable charges and confirmations of Letter of Credit charges, if required, will be borne by the supplier. All Indian Bank Charges will, however be borne by ONGC. 14.4 The corporate &, personnel tax liability (imposed on his employees and the employees of his sub-contractor, vendors, bank-up consultants etc. on account of their association with or for performance of the work in India) against this order will be borne by Supplier. This is not a tax protected contract and ONGC will simply recover the tax assessed by tax authorities from the payment due to Supplier.

8.8. With reference to aforementioned covenants of the contract, ld. counsel pointed out that all the items were related to supply of equipment and installations and commissioning and training. Therefore, it was not a trunkey contract. The order was for supply/ purchase of equipment as contract refers to supplier and indentor. 8.9. Ld. counsel further submitted that the equipment being a scientific equipment, required proper training. The installation and trainings were, thus, part

of supply of equipment. He submitted that it is mere a case of delivery by one person followed by visit of technicians who installed the machine and trained the persons who would be operating. 8.10. Ld. counsel further pointed out that contract clearly specifies prices of equipment, installation and training both within and outside India, which is evident from Annexure 1 to the contract. Ld. counsel further referred to page 248 of the PB, wherein clause 1.10 of Annexure 2 to the contract reads as under: “Services: shall mean those services ancillary to the supply of goods, such as transportation and insurance and any other incidental services, such as installation, commissioning, provision of technical assistance, training and other such obligations of the SUPPLIER covered under the contract.

8.11. Thus, he submitted that services were merely incidental or ancillary to main supply. He, therefore, submitted that it is not at all a case of composite contract but a pure supply contract or in the alternative a divisible contract, because payment of consideration for various activities was not dependent on the completion of other activities or whole contract. Ld. counsel pointed out that AO did not deal with the arguments of the assessee company on this count. 9. Ld. CIT(DR) relied on the order of AO, passed in pursuance to the directions of ld. DRP and submitted that contract is to be looked as it is. 10. We have considered the submissions of both the parties and have perused the record of the case. From the various covenants, reproduced above, it is evident that assessee had entered into a single contract with multiple scope of work and, therefore, it could not be considered as a composite contract where the consideration for the contract as a whole is contemplated. From the terms of contract it is evident that the whole contract was divisible into different components, the consideration for which was separately contemplated in the

contract itself. Further, from the assessment order it is evident that AO had aggregated the income from various streams and had not adopted any specific value of the contract. 10.1. Having held that it was a divisible contract with multiple scope of work, we have to find out where the title in goods passed. If title in goods passed off shore, then no income can be attributed from this part of the contract in India. At page 82 of PB wherein the Annexure 1 to the supply order is contained, the contract clearly mentions the consideration in respect of equipment, installation and commissioning, third party charges, service tax charges for training for various services separately. As per the terms of delivery, reproduced earlier, it is evident that terms for imported items through sea was FOB and through air it was FCA. FCA implies that seller fulfills his obligations to deliver when he has handed over the goods, cleared for export, into the charge of the carrier named by the buyer at the named place of point and FOB implies that the seller fulfills his obligation to deliver when the goods have passed over the ship’s rail at the named port of shipment. This means that the buyer is to bear all costs and risks of loss of or damage to the goods from that point. 10.2. Under both the circumstances, viz. through air or through sea, the title in goods passed off shore and, therefore, no part of the consideration could be attributed to the supplies in India. These aspects become further clear if we examine the dispatch instructions, packing and insurance covenant, shipping arrangement as per covenant 18. 10.3. Now let us examine this issue from the perspective of Income-tax Act. Section 9(1)(i) of the Act provides that income shall be deemed to accrue or arise in India if such income has accrued or arisen through or from a business connection in India. Further, Explanation 1 to section 9(1)(i) of the Act provides that where a business, of which all the operations are not carried out in India, the

income of the business deemed to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India. 10.4. Admittedly no portion of the offshore supplies involved any activities in India as all the activities in relation to the earning of income from offshore supplies took place outside India. Now even assuming that on account of contract being signed in India, a business connection had been established, still we have to examine the issue from India US DTAA point of view as the assessee was eligible to claim benefit under the treaty. As per Article 7(1) of the India US DTAA, the business income of a US entity can be taxed in India only if it had PE in India. The AO held that assessee had PE in India for installation and commissioning and supply which also included the indigenous supply and presence of its personnel/ entities for providing training to ONGC personnel. These observations are primarily with reference to the contract being treated as a composite contract and does not refer to which PE as per Article 5 of the India-US treaty was there. Admittedly the assessee had no fixed place of business in India and its employees only gave training for proper execution of the project. Further, assessee company did not take the services of any person in India except for supply of indigenous parts and, therefore, there was no dependent agent PE in India also. The AO has not brought on record any evidence to substantiate that the income from offshore supplies was attributable to alleged PE. 10.5. Further, if we consider the AO’s view that there was installation PE, then too as per Article 5(2)(j)&(k), there should have been presence for more than 120 days then only installation PE could be considered. The AO has not commented on this aspect. Therefore, the entire findings of AO on the issue relating to PE are without any basis. Therefore, considered from all perspectives no income can be attributed to the offshore supply. In the result ground nos. 3 & 4 are allowed.

13.1. Ld. counsel has referred to various invoices on this count, but since this aspect has not at all been examined by AO, therefore, it would be in the interest of justice that this matter is restored back to the file of AO for examining the assessee’s contention and if it is found that no profit was earned out of this activity, then no income can be attributed to this aspect. In the result ground no. 5 is allowed for statistical purposes. 14. Ground no. 6: Regarding taxing of consideration for installation and inspection activity, the main contention of ld. counsel for the assessee is that the revenue earned by assessee from this activity cannot be taxed as the necessary condition for installation PE as contemplated under Article 5(2)(j)&(k) are not fulfilled as assessee’s presence in India was not for 120 days. He also submitted that assessee company did not render installation and inspection services to ONGC in a manner which equips ONGC with such knowledge and skill so that ONGC can independently carry out installation and inspection in future without recourse to the assessee company. We find that both these aspects were not examined by AO and, therefore, it will be in the interest of justice that for proper verification of facts on this count, the matter is restored back to the file of AO. We order accordingly. Ground no. 6 is allowed for statistical purposes. 15. Ground no. 7: At the time of hearing ld. counsel submitted that this ground is not pressed as it is. He, however, referred to page 8 of AO’s order and pointed out that since onshore revenue has been taxed in AY 2009-10, so the same should not be taxed in AY 2008-09. He submitted that the matter may be referred back to the AO for verification so as to avoid any double taxation. 15.1. Having heard both the parties, we refrain from giving any direction as the ground is not pressed. In the result, this ground is dismissed. 16. Ground no. 8: AO included USD 8500 in regard to service tax as one of the component of receipt under the contract. Ld. counsel pointed out that this aspect is

covered under ground no. 8 raised by assessee. He submitted that on this service tax no income was earned by assessee as this was a reverse charge and is to be excluded. 17. Having heard both the parties, we find that this issue has not been independently examined by lower revenue authorities as the entire issue was considered in the back drop of finding that it was a composite contract. Therefore, we restore this issue to the file of AO to examine the issue de novo. 18. Ground nos. 9 & 10: Vide ground nos. 9 & 10 the assessee has assailed the findings of ld. AO/ DRP for estimating the income attributable to alleged PE in India @ 15%. 19. As we have already held that the matter regarding installation PE is to be verified by AO. If AO reaches a conclusion that there was installation PE, then the income has to be attributed considering the extent of functions performed in relation to installation. 20. Ld. counsel has pointed out that total proportion of components other than supplies was .99% only. From this it is evident that the functions performed in regard to installation, inspect, training etc. were quite nominal as compared to the overall contract and, therefore, the ld. DRP was justified in attributing only 15% of the total revenue from these activities to alleged PE. All were foreign nationals who imparted training. Therefore, very small portion of overall activity could be attributed to alleged PE. In the result ground nos. 9 & 10 are dismissed subject to aforementioned observation. 21. Ground no. 11. Charging of interest is consequential. The AO shall recalculate the charging of interest u/s 234B, if any, while giving effect to appellate order.

Revenue’s appeal (ITA no. 1580/Del/2015): 22. Department is only aggrieved by the finding of ld. DRP in applying a profit rate of 15% on the gross contractual receipts of the assessee from M/s ONGC as against the proposed action of the AO to apply an estimated profit rate of 25% for computing the taxable income of the assessee. 23. We have decided this issue vide ground nos. 8 & 9 of assessee’s appeal and have upheld the estimation of 15% being income attributable to alleged PE only in respect of installation and training in India. This will, of course, be subject to AO’s finding on PE being there or not, in terms of our observations made earlier. In the result, ground raised by department is dismissed. Stay no. 206/Del/2016:

Sd/- Sd/- ( C.M. GARG ) (S.V. MEHROTRA) JUDICIAL MEMBER ACCOUNTANT MEMBER Dated: 19/08/2016. *MP* Copy of order to: 1. Assessee 2. AO 3. CIT 4. CIT(A) 5. DR, ITAT, New Delhi.