STEMPEUTICS RESEARCH PRIVATE LIMITED,BANGALORE vs. JOINT DIRECTOR OF INCOME TAX, BANGALORE

and 7.5.2013 arising from the order passed under Section 201(1) and Assessment Years 2011-12 and 2012-13 respectively.

That itself does not mean that the reimbursement of expenses made by the assessee to its Malaysian subsidiary are in the nature of FTS. The subsidiary of assessee is carrying on its own R&D activity and does not render any technical services to the assessee. Further the assessee and its subsidiary are developing products for their own business in their own independent status. The agreement with Cipla is to sell the new product manufactured by the assessee and its subsidiary to Cipla on a principle to principle basis. Therefore the assessing authority has developed for Cipla. Clinical trial of stem cell drugs are carried out by the subsidiary to provide any technical services to assessee to be utilized in India and the same are done by the subsidiary in Malaysia. In terms of MOU between the assessee and its subsidiary the details of various expenditure incurred by its subsidiary for any stem cell product research were to be furnished. In compliance of tax stipulation, the subsidiary furnished all the relevant details in debit note. It is not the case of the assessee that its subsidiary which is not carrying on any clinical trial as it is an integral part of the R&D of new drug. In fact it is the main expenditure of reimbursement by the assessee to a subsidiary for which funds are granted by Cipla. The clinical trial carried out by the subsidiary in Malaysia in no way make out a case of rendering a technical services to assessee in India. The learned Authorised Representative has then referred to the provisions of section 9(1)(vii)(b) of the Act and submitted that it is stipulated under this provision as what is income deemed to accrued or arise in India. By way of FTS payable by a resident is not taxable if the fees is payable in respect of services utilized in a business purpose of making or earning any income from any source outside India.

The case of the assessee is on better footing at as the research carried out by SRM, Malaysia and therefore it is not carried out by the assessee in India or Malaysia. The fees for services not rendered in India cannot be chargeable to tax in India. She has further contended that it is reimbursement of expenditure without any element of income and therefore it will not fall under the ambit of the sum chargeable to tax either under Section 9 of the I.T. Act or under Article 2 of the Indo- Malaysia DTAA. It is nothing but the business income of the SRM, Malaysia attributable to Article 7 of DTAA therefore, in the absence of any PE in India in terms of Article 5 of DTAA the same is not chargeable to tax in India. In support of her contention she has relied upon the decision of Hon'ble Supreme Court in the case of GE India Technology Centre Pvt. Ltd. Vs. CIT 327 ITR 456 (SC) and submitted that the obligation to deduct tax at source under Section 195 of the Act does not arise on the remittances made to Non-residents; it arises only when such remittance is of a sum chargeable to tax under the Act. Therefore to Non-resident is liable to deduct tax if such sum is chargeable to tax under the Act. The reimbursement of expenses made by the assessee to SRM, Malaysia are all on principle to principle basis. As per the agreement the final product was to be sold to Cipla on principle to principle basis. Hence the amount paid by the assessee to subsidiary at best be treated as business income under DTAA and in the absence of PE is not chargeable to tax in India. Learned Authorised Representative relied upon the following decisions : i. Director of Income Tax (Intl. Taxation) Vs. Sun Microsystems India Pvt. Ltd. in Dt.2.6.2014 (Kar) ii. CIT Vs. Dunlop Rubber Co. Ltd. (1983) 142 ITR 493 (Cal) iii. Ishikawajma-Harima Heavy Industries Ltd. Vs. Director of Income Tax (2007) 288 ITR 408 (SC) 5. On the other hand, the learned Departmental Representative has submitted that the meaning of FTS as provided in the Act as well as under DTAA clearly brings their payment under the ambit of FTS. The learned Departmental Representative has relied upon the orders of the authorities below as well as the decision of Hyderabad Bench of this (Hyd-Trib.).

per the tripartite Memorandum of Understanding (MOU) between the assessee, its Malaysian subsidiary and Cipla, it was agreed upon between the parties that Cipla would make the payment towards product development fees to assessee to be utilized by it for its clinical trial, research and development and operational expenditure in India as well as in Malaysia. The relevant clause of the MOU is clause No.2 which reads as under :

“ “2. Details of Understanding :

The assessee has claimed right from beginning that this payment is only reimbursement of expenditure and there is no element of profit therefore there is no income chargeable to tax in India. The Assessing Officer did not accept the contention of the assessee and held as under :

“ The assessee has annexed details of the ledger account of the transaction with the Malaysian company showing total credit of Rs.;1,25,31,276 in the hands of the foreign. It is necessary to point out at this juncture that the agreement signed with the Malaysian company provides for. “Stempeutics India had entered into an agreement with Cipla Ltd. on 11th day of June, 2009, whereby Cipla Ltd. ;would be making payment towards Product Development Fees to Stempeutics India, to be utilized by it for its Clinical Trials, R & D and Operational Expenditure at India & Malaysia. Stempeutics India would make regular reimbursement of expenditure to Stempeutics Malaysia of the payment received from Cipla Ltd…..”

Therefore all expenditure incurred in pursuance to this agreement have been treated in lieu of the services rendered by the foreign company for which payment is being received by the Malaysian Company. Logically since the expenditure flows from the agreement itself, therefore such expenditure have to be treated as receipts received in lieu of the services itself. If the same had not been given, it would not be incorrect to conclude that there would be no services rendered. Therefore if due to financial relations between the two companies as being holding and subsidiary company, the holding company agreed to reimburse all costs relating to clinical treats, it does not one take away the character of the receipt itself which is for technical services (as per the law dictionary it is described as a charge for labor or services esp. professional services). It is relevant to note that there is no separate agreement between CIPLA and the Malaysian Company. The essential question is what is the services rendered for which income arises for the Malaysian company and whether there was any liability for taxation in India. Once both conditions are satisfied Tax deduction should have been effected.

Chargeability happens on gross basis as per the DTAA and the IT Act, 1961 and once chargeability is defined as per the decision of Hon'ble Supreme Court in the case of GE Technology, it has to be brought to tax as per the mode of computation provided in the IT Act and the DTAA which is on a gross basis.

11 & 1450/Bang/2013 The assessee’s submission that no TDS is to be deducted is not acceptable for the reason that the agreement providing for Fee for Technical Services does not give an option to Indian company whether or not to incur such expenses. The agreement has to be understood and read in totality. Since it is incapable of being disintegrated the components of the contractual agreement cannot be placed in water tight compartments. It is an integral part of the agreement which binds the assessee to make the payment, in the absence of which there would be possibly be no rendering for Fees for Technical Services. If one was to accept the contention of the assessee, that TDS on FTS is to be done only for the component relating to the delivery of the services, then it would yield only absurd results because there can be no netting out of such component from the gross package that constitutes free for technical services per se as a whole. In fact there is no other head under which the same can be incorporated other than FTS, the same cannot be isolated as a charge to be borne by the Indian company without taking cognizance of the purpose and character of such a payment. Therefore the same is to be treated as a inseparable part of FTS and the addition is made accordingly, by disallowing the said expenditure on account of non-deduction of TDS. Therefore both as per the DTAA and the provisions of the IT Act, 1961, payment received for the purposes for FEE FOR TECHNICAL SERVICES is liable to be taxed in India.”

The CIT (Appeals) has confirmed the action of the Assessing Officer by holding that the payment in question appears as FTS as per the Income Tax Act as well as under Article 13 of Indo-Malaysian DTAA as under :

“ 5.5 The relevant extracts of the DTAA between India & Malaysia are reproduced as under :

“Article 13 – Fees for Technical Services. ……. the term “Fees for Technical Services” means payment of any kind in consideration for the rendering of any managerial, technical or consultancy services including the provision of services by technical or other personnel but does not include payments for services mentioned in Articles 14 & 15 of this Convention.”

There is no dispute that as per the MOU between the parties, the cost of R & D as well as clinical trials undertaken by the assessee and its Malaysian subsidiary was to be borne by Cipla and in turn outcome of the R & D as well as clinical trials will be belonging to Cipla. Thus the outcome product of the R & D as well as clinical trials would not belong to the assessee or its subsidiary but the Cipla had the right over the same. Therefore the Cipla has right to acquire the outcome in the shape of technical information, technology documentation, know how and process involved in all clinical R&D. Though the assessee has reimbursed the expenses to its subsidiary however in case the payment is considered as tax for technical services then the element of profit becomes irrelevant as the gross payment is taxable. The definition of Fees for Technical Services (FTS) of the Indo-Malaysia DTAA provides under Article 13 Clause 3 as under :

“ Article 13 (3) : The term ‘fees for technical services’ means payment of any kind in consideration for the rendering of any managerial, technical or consultancy services including the provision of services by technical or other personnel but does not include payments for services mentioned in Article 14 and Article 15 of this Agreement.”

Thus it is clear under Article 13(3) of DTAA in question there is no clause of make available and the terms FTS means payment of any kind in consideration for rendering of managerial, technical or consultancy services/provision for services by technical or other personnel.

Conducting clinical trials & R&D is clearly a service which is technical in nature therefore providing the outcome of the research to Cipla through the assessee clearly falls under the ambit of the term FTS as per the Article 13 of the DTAA between India & Malaysia. The learned Authorised Representative has relied upon various decisions however, we find that the decision in the case of CIT Vs. Dunlop Rubber Co. Ltd. (supra) there was no issue of FTS but it was only sharing of expenses by the parent and its subsidiaries for jointly conducting some research activity for their own business activity. Similarly in the case of DIT Vs. Sunmicro System India Pvt. Ltd. (supra), the Hon'ble High Court has upheld the finding of the Tribunal by recording the fact that the service was not made available therefore the said decision is based on the make available clause in DTAA. As regards the decision of Hon'ble Supreme Court in the case of Ishikawajma-Harima Heavy Industries Ltd. Vs. DIT Establishment and the question of FTS was not involved. Thus the decision relied upon by the learned Authorised Representative would not help the case of the assessee.

“ 8. We have considered the rival contentions and perused the facts on record. It is an admitted fact that in the case of Dr. Reddy Laboratories P. Ltd., (supra) the issue was whether the payments are to be treated as fees for technical services under Article 12 of the DTAA or as business profits in terms of Article 7 of DTAA with USA and considered in those cases that the payments are in the nature of business receipts to be considered under Article 7 of the DTAA. The findings are as under :

“11. We have considered the issue. Keeping in mind the detailed order of the CIT(A), which is extracted above and the provisions of the Income-tax Act read with DTAA with USA and Canada, which are almost similar, we have no reason to differ from the order of the CIT(A). Even though the Assessing Officer considered that the payments were made by way of ‘fee for technical services’ as per Article 12 of the DTAA, the same is taxable in the source country only if such services make available any technical knowledge, expertise, etc. or there is transfer of technical plan or design. In this case, as rightly considered by the learned CIT(A), Assessee was conducting clinical trials through the CROs in USA to comply with the regulations therein and the CROs who are experts in this field were only conducting studies and submitting the reports in relation thereto. They are neither transfer of technical plan or technical design nor making available of technical knowledge, experience or know-how by the CROs to Assessee company. In fact, Assessee company did not get any benefit out of the said services in USA and assessee was only getting a report in respect of field study on its behalf, which would help it in getting registered with the Regulatory Authority. Since there is no making available of technical skill, knowledge or expertise or plans or designs in the present case, the amounts paid by Assessee do not fall under Article 12, but come within the purview of Article 7 of the DTAA. Therefore, the amounts paid are to be considered as business receipts of the said CROs and since they do not 15 & 1450/Bang/2013 have any PE in India on which aspect there is no dispute, there is no need to deduct tax at source. Similar issue was analysed and considered by the AAR in the case of Anapharm INC (supra), which is one of the recipients in Assessee’s case also. The AAR in that case held as under- “Mere provision of technical services is not enough to attract art. 12(4)(b). It additionally requires that the service provider should also make his technical knowledge, experience, skill, know-how etc., known to the recipient of the service so as to equip him to, independently perform the technical function himself in future, without the help of the service provider. In other words, payment of consideration would be regarded as 'fee for technical/included services' only if the twin test of rendering services and making technical knowledge available at the same time is satisfied. In the present case, the applicant renders bioanalytical services which, no doubt, are very sophisticated in nature, but the applicant does not reveal to its clients as to how it conducts those tests or the inputs that have gone into it, so as to enable them to carry out those tests themselves in future. A broad description or indication of the type of test carried out to reach this conclusion does not enable the applicant's client to derive requisite knowledge to conduct the tests or to develop the technique by itself. The mere fact that the tests in question are highly technical in nature will not make a difference. In its affidavit the applicant affirms that only final results, conclusion of data of bioequivalence tests are provided to the recipient. Clinical procedure, analytical methods, etc., which are proprietary items of the applicant, have neither been nor will they ever be transferred, assigned or handed over to 5 or any other Indian client. From the perusal of the relevant agreements, no provision is found which would entitle the clients to know the details of the analytical methods and procedures employed by the applicant in carrying out the bioequivalence tests. The only doubt cast by c1. 15 of the agreement with 5 is cleared by S's statement that the said clause which was part of standard format was never given effect to. It seems to be inapplicable also having regard to the actual modalities of the transaction as set out in the application. Then agreement with R says that R shall be the owner of the tested samples and test compounds. Further, the applicant will store tested samples and test compounds for three months and make these available to the client at the expiry of that period. Handing over tested samples and test compounds cannot be equated with making technology, know- how, etc., available· to R. The agreement also states that R shall be the owner of all intellectual property rights resulting from the services. This would mean that, if on the basis of these results, the client is able to acquire patent or other intellectual property rights in respect of new generic drugs developed by it, then the applicant shall not claim any interest whatsoever in such right. It is altogether a different aspect. By agreeing to this provision, the applicant has not made its technical expertise, know-how, etc., available to R. It is only natural that R which has developed the generic drug should

16 & 1450/Bang/2013 enjoy the intellectual property rights in relation thereto. The analytical test has not contributed to the development of new generic drug. The test has only shown whether that drug is as efficacious as the reference drug. Development of new drug and testing its efficacy are not one and the same thing. By merely acquiring knowledge of the testing methods one does not get any insight as to how a new drug could be developed. In the light of the above discussion interpreting the expression 'make available', it follows that c1. (b) of art. 12(4) relied upon by the Revenue does not come into play and the services in question cannot be considered to be "fees for included service" within the meaning of this provision. The second limb of cl. (b) refers to "development and transfer of a technical plan or technical design". Obviously, that has no application here. The applicant uses its experience and skill itself in conducting the bioequivalence tests, and provides only the final report containing conclusions, to the client. The information concerning scientific or commercial experience of the applicant or relating to the method, procedure or protocol used in conducting bioequivalence tests is not being imparted to the pharmaceutical companies and the consideration is not paid for that purpose. On the basis of the final report, the pharmaceutical companies will not be able to find out what method, procedure or protocol was used in conducting the tests. Moreover, the test reports are drug specific. Hence the material furnished by the applicant will not in any way help the customers to facilitate further research and development of new drugs as contended by the Revenue. As such, the fees received by the applicant are to be treated as business income and not royalty income. Since the applicant is in the business of providing bio- analytical services to various pharmaceutical companies, the consideration received by it from them would be its business income. In view of art. 7 r/w art. 5, such income can be taxed in India only if the applicant has a PE in this country. The applicant has denied the existence of any PE here and there is nothing on record to indicate anything to the contrary. On the facts stated, the existence of PE in India cannot be inferred also. It is, therefore, ruled that the fee paid by S and R to the applicant in respect of bioequivalence tests conducted by it is in the nature of 'business profits' under art. 7 and the same is not taxable in India as the applicant does not have a PE situated in this country.-Raymond Ltd. vs. Dy. CIT (2003) 80 IT] (Mumbai) 120 : (2003) 86 ITD 791 (Mumbai), McKinsey & Co. Inc. (Phillippines) & Ors. vs. Asstt. Director of IT (2006) 99 IT] (Mumbai) 857 concurred with; Diamond Services International (P) Ltd. vs. Union of India (2008) 216 CTR (Bom) 120 : (2008) 169 Taxman 201 (Bom) relied on. Conclusion:

17 & 1450/Bang/2013 Applicant, tax resident of Canada, only providing final results to its Indian clients by using highly sophisticated bio-analytical know- how, without providing any access whatsoever to the clients to such know-how, fee received by it is business income and not fee for technical/included services or royalty and applicant having no PE in India, such income would not be taxable in India by virtue of relevant provisions of DTAA between India and Canada.

by the Revenue in these appeals are rejected”.

9. But In this case, Ld. CIT(A) who considered the case of Dr. Reddy Laboratories also earlier, distinguished the facts to state that these are not agreements with contract research organisations but with independent research entities. The clause of the agreement also indicate that assessee has rights over the patents, secret knowledge etc., attained during the course of conducting research. It was also further observed that assessee admits that the payments are taxable as fees for technical services (vide submissions made and extracted in para 15 of Ld. CIT(A) order), whereas, in the case of Dr. Reddy Laboratories the payments are not accepted as fees for technical services, even under the provisions of I.T. Act. Moreover, as rightly pointed out by the Ld. CIT(A), the DTAA between USA and India, Canada and India are entirely different with DTAAs of UK and Netherlands. These issues were clearly analysed by Ld. CIT(A) in the order. Assessee company is also silent on the enquiry made by Ld. CIT(A) with reference to transfer of knowledge as detailed in paras 26 and 28 of the order. Nothing was brought on record by assessee to counter the findings of Ld. CIT(A) and simply relied on the Coordinate Bench decision in the case of Dr. Reddy Laboratories, which we notice that the facts are different. Considering the submissions made by assessee, the orders of the authorities and agreements placed on record, we agree with the findings of Ld. CIT(A) that the payments made are taxable as fee for technical services. Since assessee has not deducted tax on the said payments, AO is correct in raising the demands u/s 201 and 201(1A). Grounds raised by assessee are dismissed.”

Order pronounced in the open court on the 16th day of Sept.,2016.