DIRECTOR OF INCOME TAX -II vs. M/S NATIONAL PETROLEUM CONSTRUCTION CO.

(INTERNATIONAL TAXATION)

..... Respondent Through Mr N.P. Sahni, Senior Standing Counsel with Mr Nitin Gulati, Advocate.

AND

ITA 795/2014

DIRECTOR OF INCOME TAX –II

(INTERNATIONAL TAXATION)

..... Appellant

Through Mr Rahul Chaudhary, Senior Standing

Counsel with Mr Ruchir Bhatia, Advocate.

versus

M/S NATIONAL PETROLEUM CONSTRUCTION CO.

..... Respondent Through Mr C.S. Aggarwal, Senior Advocate with Mr Prakash Kumar and Mr Pawan Kumar, Advocate.

CORAM: JUSTICE S.MURALIDHAR JUSTICE VIBHU BAKHRU

JUDGMENT

VIBHU BAKHRU, J 1. These appeals have been filed under Section 260A of the Income Tax Act, 1961 (hereafter the ‘Act’) calling into question orders dated 5th October, 2012 and 31st January, 2013 passed by the Income Tax Appellate Tribunal

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Page 3 of 54 (hereafter the ‘ITAT’) in ITA No. 5168/Del/2010 and ITA No. 5763/Del/2011 respectively. The said appeals were filed by the Assessee assailing the assessment orders dated 26th October, 2010 and 18th November, 2011 for the assessment years (AY) 2007-08 & 2008-09 respectively. Whilst ITA No. 143/2013 and 144/2013 have been preferred by the Assessee, ITA 795/2014 and 533/2013 have been preferred by the Revenue. 2. The controversy involved in the present appeals principally relates to the taxability of income earned by the Assessee in respect of a contract entered into by it with ONGC Limited, a public sector enterprise (hereafter ‘ONGC’).The aforesaid contract entailed designing, engineering, procurement, fabrication of fully loaded offshore platform and its installation, testing and commissioning at an offshore facility of ONGC. According to the Revenue, the income from the said contract is liable to be taxed in India as the Assessee is stated to have a Permanent Establishment (PE) in India. According to the Assessee, its income from the contract in question is not taxable under the Act by virtue of the Double Taxation Avoidance Agreement between India and United Arab Emirates (UAE) (hereafter referred to as the ‘DTAA’). The Assessee claims that it does not have a PE in India and further, in any event, the income from fabrication and supply of platform is not taxable as the same pertains to the Assessee’s activities outside India.

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Page 4 of 54 3. Whilst the ITAT had rejected the Assessee’s contention that it does not have a PE in India, it accepted the Assessee’s contention that the contractual receipts from ONGC were separable and the amount received for fabrication and supply of platform outside India was not taxable under the Act. This has led both the Assessee and the Revenue to assail the orders passed by the ITAT. 4. These appeals were admitted and the following questions of law were framed in the appeals preferred by the Assessee (ITA 143/2013 and 144/2013):- “1. Whether the Income Tax Appellate Tribunal was correct in holding that the appellant had a fixed place of business or permanent establishment in India as defined in Article 5(2)(c) of the Double Taxation Avoidance Agreement between India and UAE. 2. Whether the Income Tax Appellate Tribunal was justified and correct in holding that the installation permanent establishment under Article 5(2)(h) of the Double Taxation Avoidance Agreement between India and UAE is not dependent on the date of actual start of execution of the contract but had come into existence on the date of award of contract? 3. Whether the income Tax Appellate Tribunal was right in holding that Arcadia Shipping Ltd. was a dependent agent permanent establishment of the appellant in India under Article 5 of the Double Taxation Avoidance Agreement between India and UAE. 4. Whether the Income Tax Appellate Tribunal has not attributed and determined the taxable income under installation and commissioning; whether the said issue/question has remained undecided and the effect thereof.

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Page 5 of 54 5. Whether the order of the Income Tax Appellate Tribunal violates and is contrary to Article 7(6) of the Double Taxation Avoidance Agreement between India and UAE.”

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Page 6 of 54 relevant to the AY 1997-98. On 28th August, 2005, the Assessee was awarded a contract for 4 Well Platform Project-II (termed as Contract No. MR/OW/MM/NHBS4WPP and hereafter referred to as ‘4WPP Contract’). The Assessee had tendered for the aforesaid contract pursuant to a global tender floated by ONGC in July, 2005. This was the third contract between the Assessee and ONGC. Subsequently, the Assessee entered into another contract for C-Series Project (termed as Contract No. MR/OW/MM/C-Series/03/2006, hereafter referred to as ‘C-Series Contract’) on 23rd November, 2006. 6.2 The scope of work as described in the “General Conditions of Contract” of both the 4WPP Contract and C-Series Contract included “Surveys (pre- engineering, pre-construction/pre-installation and post-installation), Design, Engineering, Procurement, Fabrication, Anticorrosion & Weight coating (in case of rigid pipeline, Load-out, Tie-down/Sea fastening Tow-out/Sail-out, Transportation, Installation, Hook-up, Installation of submarine pipelines, installation and hook-up of submarine cables, Modifications on existing facilities, Testing, Pre-commissioning, Commissioning of entire facilities as described in the bidding document”. 6.3 The said contracts included various activities. Whilst the activities relating to survey, installation and commissioning were done entirely in India, the platforms were designed, engineered and fabricated overseas - at Abu

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Page 7 of 54 Dhabi. A tabular statement indicating the activities carried out in India and overseas as asserted by the Assessee, is reproduced below:- Activity Inside India (i.e. Installation and Commissioning) Outside India (Abu Dhabi) (i.e. Fabrication) Survey (Pre-Engineering, Pre-construction / Pre- installation √

Design & Engineering

√ Procurement of material

√ Fabrication

√ Load out, Tie down, tow- out and transportation of fabricated structure to India Partly √ Partly √ Installation, submarine cable laying √

Hook-up, testing, pre- commissioning √

Start up & commissioning √

6.4 The Assessee has been filing its Income Tax Returns for the AYs commencing from 1997-98. The Assessee’s income under the Act has been computed on a presumptive basis by taxing the gross receipts pertaining to the activities in India less verifiable expenses at the rate of 10% and the receipts pertaining to activities outside India at the rate of 1%. The Assessee also adopted the said basis for computing its assessable income and filed its returns for AY 1999-00 onwards accordingly. The returns filed by the Assessee for AY 2004-05, 2005-06 and 2006-07 were processed under Section 143(1) of the Act. However, the returns filed by the Assessee for AY 2007-08 and 2008-09 –

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Page 8 of 54 which are involved in the present appeals – were not accepted by the Assessing Officer (hereafter ‘AO’). Proceedings before the AO/DRP 7. The AO passed a draft assessment order dated 31st December, 2009 under Section 144(5) of the Act for the AY 2007-08. The AO held that the Assessee had a Fixed Place PE in India in the form of a Project Office at Mumbai. The AO further held that Arcadia Shipping Ltd. (ASL) constituted a Dependent Agent PE (hereafter also referred to as ‘DAPE’) of the Assessee in India. In addition, the AO held that the Assessee also had a Installation/Construction PE in India. 7.1 Insofar as the Assessee’s contention that the fabricated material was sold to ONGC outside India is concerned, the AO held that the contract was a turnkey and a composite contract and was not divisible as claimed by the Assessee. Accordingly, he held that the entire contractual receipts including the activities performed outside India were taxable in India. The consideration received by the Assessee for design and engineering was held to be Fees for Technical Services (hereafter 'FTS'). Since, the Assessee had not maintained separate books pertaining to the contract, the AO estimated the Assessee’s profit to be 25% of the consideration received from ONGC. The Assessee’s contention that it should be taxed by applying provisions of Section 44BB of the

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Page 9 of 54 Act was rejected as the AO held that the activities carried out by the Assessee were not covered under that Section. 8. The Assessee did not accept the Draft Assessment Order and filed its objections before the Dispute Resolution Penal (‘DRP’). The DRP held that Article 5 of the DTAA provided an inclusive definition of ‘Permanent Establishment’ (PE) and that the Assessee’s Project Office constituted a PE of the Assessee in India. The DRP reasoned that: (i) the Assessee itself had shown the Project Office as its PE in the earlier years as well as in the AY 2007-08 and had subsequently sought to change its stand on the basis of the ITAT’s judgment in the case of DCIT v Hyundai Heavy Industries Limited; (ii) the Assessee had informed the Reserve Bank of India that its Project Office was for the purposes of undertaking the project with ONGC and this established that the Project Office was established to undertake the project and not any ancillary or auxiliary activity; (iii) before submitting the bid, Assessee undertook a pre-bid survey and the Assessee’s communication to ONGC indicated that the Assessee had familiarized itself with the Marine Sea, Land-surface and sub-surface, metrological, oceanographic, climatological and environmental conditions which may exist in the installation area. Further, the Assessee had also

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Page 10 of 54 familiarized itself with other aspects of the project. This, according to the DRP, indicated that the pre-bid survey was conducted through the Project Office which was directly connected with the contract in question; (iv) during the period of negotiation of the contract, employees of the Assessee had attended the meeting with ONGC on 16th December, 2005 and this included the employees of the Project Office. The DRP observed that the Assessee had not disputed that the concerned persons were employees of its project; (v) the minutes of the kick-off meeting clearly mentioned that the review of engineering documents would be done in Mumbai. Thus, all the negotiation and approval was done in Mumbai after the hard copy of the design was received by ONGC; (vi) that the contract lasted for approximately two years and it was not possible for a contract of this magnitude to be executed without the Assessee having a fixed place of business in India; (vii) the Assessee’s office in India provided a fixed place for the employees of the Assessee visiting India for execution of the project from time to time and it was not necessary that the permanent employees at the Project Office be directly involved in the execution of the project;

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Page 11 of 54 8.1 Insofar as ASL is concerned, the DRP concurred with the AO that ASL was a DAPE of the Assessee for the reasons stated below:

(i) that ASL was actively involved in the project since pre-bid meetings, hard core marketing and business development till finalization of the contract;

(ii) that the communications issued by the Assessee as well as ASL to ONGC expressly stated that ASL represented the Assessee as its Agent;

(iii) that the address of the employees of the Assessee was mentioned as ASL’s address in the application to the Ministry of Home Affairs. 8.2 The DRP rejected the Assessee’s contention that it had an Installation PE as described under Article 5(2)(h) of the DTAA for a duration of less than nine months and, therefore, the same could not be considered as a PE of the Assessee in terms of the DTAA. The DRP held that since the Assessee had contended that payments for engineering, procurement of material and fabrication could not be treated as FTS as being a part of the consideration for installing the platform, the Assessee could not treat those activities as separable for the purposes of limiting the duration of its PE in India and/or splitting the income between that arising overseas and in India. The DRP, accordingly, held that the Installation PE of the Assessee came into existence at the stage of commencement of the contract. The DRP observed that pre-engineering or pre- design survey – which was claimed to be done by a sub-contractor employed by

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Page 12 of 54 the Assessee – was an integral part of the contract and the time spent by the sub- contractor would also constitute the time spent by the Assessee under the DTAA. Thus, the DRP reasoned that the existence of a PE would commence from the date the sub-contractor started his job at the site of ONGC. 8.3 The DRP rejected the contention that the contract was a divisible contract and the income of the Assessee for the activities done outside India was not taxable under the Act. The DRP held that the title in the goods passed to ONGC in India and on the said basis distinguished the judgment of the Supreme Court in the case of Commissioner of Income Tax & Anr. v. Hyundai Heavy Industries: (2007) 291 ITR 482 (SC) where platforms were delivered to the agents of ONGC in Korea. For the same reason, the DRP also held that CBDT Instruction No. 1767 was not applicable to the facts of the present case. 8.4 The DRP also concurred with the AO that the payment in respect of drawings and design were FTS and in the event it was held that the Assessee did not have a PE in India, the aforesaid payment would be taxable under the Act as FTS. The DRP also rejected the Assessee’s contention that Section 44BB of the Act was applicable. It held that the contract in question was a turnkey contract in the nature of a works contract and could not be considered as a contract for services as envisaged under Section 44BB of the Act. 8.5 As regards the computation of profit is concerned, the DRP held that since the Assessee had neither produced any accounts nor submitted any basis

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Page 13 of 54 to substantiate its claim as to the profit margin adopted by the AO, the same was required to be estimated. The DRP, thereafter, noted the profit margins of four other companies which were taken as comparable to the Assessee and found that the average profit margin of those companies was 24.7%. On that basis, the DRP held that the profit margin of 25% of gross receipts estimated by the AO was justified. 9. Thereafter, the AO passed an assessment order dated 26th October, 2010 under Section 143(3) read with Section 144C of the Act. Proceedings before the ITAT 10. Aggrieved by the assessment order, the Assessee preferred an appeal before the ITAT. The ITAT concurred with the AO and rejected the Assessee’s contention that it did not have a PE in India. The ITAT observed that the Assessee had itself shown the Project Office in Mumbai as its PE in India and the Assessee’s employees were present during the negotiation of the contracts in question. The ITAT further reiterated the DRP’s observation that the Assessee had not disputed that the employees of the Project Office also attended the kick- off meeting with ONGC. The ITAT also concurred with the DRP’s conclusion that it was not possible for the Assessee, a non-resident company, to execute a contract which lasted for approximately two years without having any place of business in India from where the project could be managed. Accordingly, the ITAT concluded that the Assessee’s Project Office in India was its PE.

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Page 14 of 54 10.1 The ITAT concurred with the AO that ASL was a DAPE of the Assessee. The ITAT concurred with the finding of the AO/DRP that ASL was working wholly and exclusively for the Assessee. The ITAT held that ASL’s presence in the business meetings also indicated that ASL was engaged in the hard core business development activity of the Assessee in India and its role was not limited merely for collecting information as claimed by the Assessee. 10.2 The ITAT rejected the Assessee’s contention that its Installation PE existed only when the barges carrying the platforms entered the territorial waters of India. It concurred with the AO’s decision that the Assessee had a PE in India even prior to the notification of award of the contract. 10.3 However, the ITAT accepted the Assessee’s contention that the contract in question could be segregated into offshore and onshore activities and the Assessee’s income for the activities carried out outside India could not be attributed to its PE in India. Accordingly, it held that the profits attributable to design, procurement of material and fabrication could not be taxed in India. The ITAT rejected the Assessee’s contention that the tax payable should be computed as per the formula adopted in the preceding years (i.e. 10% of the receipts attributable to activities in India less expenses in India and 1% of the receipts attributable to activities carried out overseas). The ITAT also did not accept the Assessee’s contention that Section 44BB of the Act was applicable. Submissions on behalf of the Assessee

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Page 15 of 54 11. Mr C.S. Aggarwal, learned Senior Counsel appearing for the Assessee submitted that the Assessee had established the Project Office only to comply with the contractual requirements and the applicable exchange control regulations. The Project Office merely acted as a communication channel between the Assessee and ONGC and apart from that, it had no other role to play. He pointed out that the addresses of the project offices in the past were different and the said project offices had been established only for the contracts entered into earlier. He submitted that, therefore, the existence of the Assessee’s project offices in the past could not be linked to the Project Office established for the purpose of the contracts in question. He argued that the AO erred in holding that the Assessee had carried its business in India through a PE by alluding to the project offices established by the Assessee in respect of prior contracts. 11.1 Mr Aggarwal submitted that the only activity carried out by the Assessee in India was the installation and commissioning of the platforms which was carried out by the Assessee’s employees at the offshore site with the help of barges. He submitted that the pre-engineering and pre-construction surveys were done by an independent third party, M/s Fugro-Geonics Pvt. Ltd., an Indian company which was engaged on a principal-to-principal basis. He contended that the finding that the Project Office was involved in pre-bid meetings and/or survey and/or kick-off and/or review meetings was erroneous

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Page 16 of 54 as these meetings were attended by the Assessee’s employees from Abu Dhabi and the Project Office was not involved. 11.2 Mr Aggarwal contended that the Project Office acted as Assessee’s backoffice for liaison, coordination and collection of information from ONGC. Mr Aggarwal relied upon the decisions in CIT v. BKI/HAM: (2012) 347 ITR 570 (Uttarakhand); Cal Dive Marine Construction (Mauritius)Ltd., In Re: (2009) 315 ITR 334 (AAR); and DIT v. Hyundai Heavy Industries Co. Ltd.: (2009) 31 SOT 482 (ITAT[Del]) in support of his contention that the Assessee’s activity of installation and commissioning of platforms could be examined only in the light of the provisions of Article 5(2)(h) of the DTAA. Mr Aggarwal relied on the decision of UAE Exchange Centre Limited v. UOI: (2009) 313 ITR 94 (Del) and IAC v. Mitsui &. Co. Ltd.: (1991) 39 ITD 59 (ITAT[Del]) in support of its contention that the back office function of collection of information was specifically excluded from the purview of PE by virtue of Article 5(3)(d) and 5(3)(e) of the DTAA. 11.3 Mr Aggarwal further contended that in terms of article 5(2)(h) of the DTAA, the Installation PE would come into existence only if the construction or assembling activity continued for a period of nine months or more in India. He argued that the earliest date which could be considered for calculating the period would be the date when the barges with the fabricated platforms reached the work site, that is, on 19th November, 2006. Mr Aggarwal submitted that the

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Page 17 of 54 pre-engineering and pre-construction surveys were carried out by an independent Indian company for a period of 9 days and 27 days respectively and the same did not entail assuming control over the work site. He argued that the activities of the independent sub-contractor could not be included for calculating the period of nine months under Article 5(2)(h) of the DTAA. He further submitted that the time taken for pre-bid activities, notification of award, signing of the contract and meetings with ONGC were irrelevant for calculating the existence of an Installation PE since such work did not result in acquiring control over a work site. 11.4 Mr Aggarwal also disputed the finding that ASL was a DAPE of the Assessee in India. He submitted that ASL was an independent entity and carried out substantial business activities other than those related to the Assessee. Mr Aggarwal also submitted that although the ITAT had accepted the Assessee’s contention that only income from activities carried out in India was attributable to the PE, it had failed to adjudicate the quantum of the profits assessable to tax under the Act. He referred to the decision of the Supreme Court in Hyundai Heavy Industries (supra) in support of his contention that a profit margin of 10% was appropriate for installation and commissioning of platforms in India. Mr Aggarwal further submitted that the comparable companies selected by the DRP for justifying a profit margin of 25% / 28.58% was erroneous as the said alleged comparable companies were engaged in

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Page 18 of 54 providing engineering services while the Assessee was engaged in construction and installation of pipelines and platforms. He submitted that the alleged comparable companies were functionally different and the ITAT had failed to consider the Assessee’s submission in this regard. 11.5 Mr Aggarwal argued that the Assessee had estimated its taxable income on a consistent basis which had been adopted by the Assessee, which was accepted by the AO and there was no material on record which would justify a departure from the consistent methodology accepted earlier. He argued that the computation of presumptive profit was based on CBDT Instruction No.1767 and principles which were approved by the Supreme Court in Hyundai Heavy Industries (supra) and, thus, had a sound legal basis. Submissions on behalf of the Revenue 12. Mr Sahni, Senior Standing Counsel appearing for the Revenue controverted the contentions advanced by Mr Aggarwal. He submitted that the Assessee had filed a return admitting that it had a PE in India and in the circumstances, a contrary claim could not be made by the Assessee at the time of the Assessment. He relied upon the decision of the Supreme Court in the case of Goetze (India) Ltd. v. CIT: (2006) 284 ITR 323 (SC) in support of his contention. He further referred to the decision of the Supreme Court in Radhasoami Satsang v. Commissioner of Income Tax: (1992) 193 ITR 321

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Page 19 of 54 (SC) and contended that the Assessee cannot be permitted to depart from its consistent stand that had been sustained over the past several years. 12.1 Mr Sahni next referred to The Foreign Exchange Management (Establishment in India of Branch or Office or Other Place of Business) Regulations, 2000 issued by the Reserve Bank of India as amended on 2nd July, 2003 and drew the attention of this Court to the definition of 'project office' which is defined as “a place of business to represent the interest of the foreign company executing a project in India but excludes a liaison office”. He contended that in the circumstances, the Assessee’s contention that the project office had no role to play in the execution of the project was contrary to the record. 12.2 Mr Sahni also controverted the Assessee’s stand that the Project Office was only involved in preparatory and auxiliary activities and consisting of only three employees. He submitted that the reliance placed by the Assessee on the annual accounts of the PO was not justified as it did not include the cost of supplies and expenses which were incurred and recorded in the accounts of the head office. He pointed out that the value of fringe benefits was reported at Rs.13,45,071/- and, admittedly, payments to the extent of Rs.20,28,66,569/- were made in India on which TDS had been deducted and paid. He also pointed out that, admittedly, the TDS returns had been filed by the Project Office in India. He submitted that in the circumstances, the Assessee’s contention that the

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Page 20 of 54 Project Office in India had only carried on preparatory and auxiliary activities was not sustainable. 12.3 Mr Sahni next referred to the 4WPP Contract which specifically provided that the contractor would be responsible for deployment, transportation, accommodation and catering of all labour, local or expatriates, and would be responsible for obtaining all necessary permits and visas from the all concerned authorities. The contractor (the Assessee) was also responsible for all statutory compliances under the Income Tax Act, Customs Act, FEMA etc. and this also indicated that the role of the Assessee’s PO in India was not limited only to auxiliary or preparatory activities. 12.4 Insofar as the issue relating to the duration of the Installation PE is concerned, Mr Sahni referred to the terms of the 4WPP Contract which specifically recorded that the notice of award dated 29th November, 2005 would be the effective commencement of this contract. He pointed out that the scope of the work included surveys (pre-engineering, pre-construction/pre-installation and post-installation) and annexure D and E to the 4WPP Contract mentioned the dates and the milestone payments, the same also clearly indicated that activities/works relating to pre-engineering survey/inspection of existing facilities was to commence as earlier as 3rd December, 2005. The milestone payment formula also included payments for such activities. He, thus, submitted that the duration of the Assessee’s Installation PE would also commence with

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Page 21 of 54 the commencement of the contract. In support of the said contention, Mr Sahni also referred to the text of “Klaus Vogel on Double Taxation Conventions, Third Edition”, which provided that the minimum period for considering a construction site/project as a PE of an enterprise would begin when the enterprise starts to perform business activities on the spot in connection with the building site or construction or assembly of the project and any interruptions in the minimum period should also be included for determining the minimum period. He also referred to the extracts from the commentary by A. Skaar in support of his contention that time spent on onsite planning would also be included in computing the duration while considering whether a PE of an enterprise existed. 12.5 Mr Sahni next urged that ASL was appointed as the sole and exclusive agent and under the terms of the consultancy agreement had agreed not to represent a competitor of the Assessee or act in a manner detrimental to the Assessee’s interest. ASL had also participated in the pre-bid meeting held on 23rd August, 2005 and the kick-off meeting held on 16th December, 2005. He contended that in the circumstances, ASL constituted a DAPE of the Assessee in India. He further submitted that ASL had no discretionary powers and was acting at the instance of the Assessee and in the circumstances, even though ASL had substantial revenue from other activities, it could not be construed as an independent agent as far as the project in question was concerned.

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Page 22 of 54 12.6 In regard to the issue of attribution of income, Mr Sahni contended that Article 7(6) of the DTAA envisaged that the profits attributable to a PE would be determined by the same method year by year; but, the said clause also permitted a departure from the principle for good and sufficient reason. He submitted that in the present case, the AO as well as the DRP had provided detailed reasons for not following the method of computing the income as adopted in the earlier years. He submitted that the DRP had referred to comparable companies and the Assessee had not produced any material to justify its claim that a separate profit margin be adopted. Mr Sahni also submitted that reference to the CBDT Instruction No. 1767 was misplaced. He argued that (a) the said instruction was not applicable to the relevant assessment year; (b) the profit margin of 1% was applicable to outside India revenues in cases where the sale took place outside India on FOB basis; and (c) that the said instruction envisaged calculating profit margin at 10% of the gross revenues from operations in India without any deduction. In the circumstances, the DRP had rightly applied Rule 10 of the Income Tax Rules, 1962 to calculate the profits of the Assessee. 12.7 In respect of the Revenue’s appeals, Mr Sahni contended that the contracts in question were composite contracts and all activities were closely linked. Thus, the contract could not be split between the activities carried out overseas and activities carried out in India. He further contended that the

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Page 23 of 54 ownership of the platforms and other material was transferred to ONGC only on ONGC issuing a certificate of completion and acceptance of work. Thus, the Assessee’s contention that the income from activities conducted in relation to design, procurement of material and fabrication of the platforms, was not attributable to the PE in India was erroneous. 12.8 Mr Sahni sought to distinguish the decisions of the Supreme Court in the cases of Ishikawajima-Harima Heavy Industries Ltd. v. DIT: (2007) 288 ITR 408 (SC) and Hyundai Heavy Industries (supra) by contending that whilst the situs of transfer of properties in those cases was outside India; in the present case, possession of the platforms was handed over to ONGC in India. Reasoning and Conclusion 13. The first three questions framed in the appeals preferred by the Assessee (ITA 143/2013 and 144/2013) relate to the existence of an Assessee’s PE in India in terms of Article 5 of the DTAA. The other two questions relate to the attribution of income to the Assessee’s PE. Thus, at the threshold, it would be necessary to refer to the text of Article 5 of the DTAA for ascertaining whether the Assessee had a PE in India during the relevant period. Article 5 of the DTAA is reproduced as under:- “1. For the purposes of this Agreement, the term “permanent establishment” means a fixed place of business through which the business of an enterprise is wholly or partly carried on. 2. The term “permanent establishment” includes especially :

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Page 24 of 54 (a) a place of management; (b) a branch; (c) an office; (d) a factory ; (e) a workshop ; (f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources ; (g) a farm or plantation ; (h) a building site or construction or assembly project or supervisory activities in connection therewith, but only where such site, project or activity continues for a period of more than 9 months ; (i) the furnishing of services including consultancy services by an enterprise of a Contracting State through employees or other personnel in the other Contracting State, provided that such activities continue for the same project or connected project for a period or periods aggregating more than 9 months within any twelve-month period. 3. Notwithstanding the preceding provisions of this Article, the term “permanent establishment” shall be deemed not to include : (a) the use of facilities solely for the purpose of storage, display or delivery of goods or merchandise belonging to the enterprise ; (b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display or delivery ; (c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise ; (d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise, or of collecting information, for the enterprise ;

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Page 25 of 54 (e) the maintenance of a fixed place of business solely for the purpose of carrying on, for the enterprise, any other activity of a preparatory or auxiliary character. 4. Notwithstanding the provisions of paragraphs (1) and (3), where a person - other than an agent of independent status to whom paragraph (5) applies - is acting on behalf of an enterprise and has, and habitually exercises in a Contracting State an authority to conclude contracts on behalf of the enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to the purchase of goods or merchandise for the enterprise. 5. An enterprise of a Contracting State shall not be deemed to have a permanent establishment in the other Contracting State merely because it carries on business in that other State through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business. However, when the activities of such an agent are devoted wholly or almost wholly on behalf of that enterprise, he will not be considered an agent of independent status within the meaning of this paragraph.”

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Page 26 of 54 15. In order to determine whether an enterprise has a PE within the meaning of Article 5 of the DTAA, it would be necessary to consider the scheme of Article 5. Paragraph 1 of Article 5 provides an overarching general definition of the expression ‘Permanent Establishment’ (PE). It defines a PE to mean a fixed place of business through which the business of an enterprise is wholly or partially carried on. It is clear from the aforesaid definition that the expression ‘Permanent Establishment’ entails (a) a fixed place of business; and (b) business of the enterprise being carried on wholly or partially through the said fixed place of business. These two conditions must necessarily be satisfied for the existence of a PE. In addition, the word permanent in the term ‘Permanent Establishment’ indicates that there should be some degree of permanency attached to the fixed place of business before the same can be construed as a PE of an enterprise. The word permanent does not imply for all times to come but merely indicates a place which is not temporary, interim, short-lived or transitory. In Re. P. No. 24 of 1996: (1999) 237 ITR 798 (AAR), the Authority for Advance Ruling referred to Baker’s “Double Taxation Conventions and International Tax Law, second edition”, wherein the author had cited the decision in Henriksen v. Grafton Hotel Limited: (1943) 11 ITR (E.C.) 10 (CA) and explained that the expression “permanent” is relative and not synonymous with “everlasting”; the AAR ruled that it was used only in “contradistinction to something fleeting, transitory, temporary or casual”.

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Page 27 of 54 16. Paragraph 2 of Article 5 of the DTAA provides for an inclusive definition of the term “Permanent Establishment” and specifically lists out places of business that fall within the meaning of that expression. The use of the word ‘especially’ underscores the intention of the authors of the treaty to remove any doubts that the places listed in sub-paras (a) to (i) fall within the definition of the term ‘Permanent Establishment’. Normally an inclusive definition is used to expand the width of the term sought to be defined, however, that does not appear to be the principal intent in drafting paragraph 2 of Article 5 of the DTAA. Read in the context of the other provisions of Article 5, paragraph 2 clearly indicates that it has been used as an explanatory provision to specifically include the species of places of business that would constitute a PE of an enterprise. In this view, paragraph 1 and 2 of Article 5 of the DTAA complement each other. Thus, all classes of PEs as specified in various sub- paras of paragraph 2 of Article 5 of the DTAA would be construed as a PE subject to the essential conditions of paragraph 1 of Article 5 being met. Insofar as sub-paras (h) and (i) of paragraph 2 of Article 5 are concerned, the test of permanence as required under paragraph 1 of Article 5 is substituted by a specified minimum period of nine months. Thus, places of business as specified under sub-paras (h) and (i) of paragraph 2 of Article 5, cannot be construed as a PE of an enterprise unless they exist for a period of atleast nine months.

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Page 28 of 54 17. Paragraph 3 of Article 5 is an exclusionary clause and is intended to exclude certain places of business from the scope of the expression ‘Permanent Establishment’. Paragraph 3 begins with a non-obstante clause– “Notwithstanding the preceding provisions of this Article”. Thus, the exclusions provided under paragraph 3 would override the provisions of paragraph 1 & 2 of Article 5 of the DTAA. In other words, even if a place of business squarely falls within the definition of paragraph 1 of Article 5 and is specifically listed in paragraph 2 of the said Article, the same would, nonetheless, not be construed as a PE of an enterprise, if it falls within any of the exclusionary clauses contained in sub-paras (a) to (e) of paragraph 3 of Article 5 of the DTAA. 18. Paragraph 4 of Article 5 of the DTAA provides for a legal fiction to include an agent (other than an agent of an independent status) to be a PE of the principal enterprise. Paragraph 4 also begins with a non-obstante clause. Thus, even though an agent may not stricto senso fall within the definition of a ‘permanent establishment’ as defined under paragraph 1 and/or paragraph 2 of Article 5 of the DTAA, yet it would be deemed that a permanent establishment of an enterprise exists if the business of an enterprise is carried on through an agent as described under paragraph 4 of the DTAA. Paragraph 5 of Article 5 provides for an exclusion to the application of paragraph 4 and the agents of a principal enterprise as described in paragraph 5 of the DTAA would be excluded from the scope of paragraph 4 of Article 5 of the DTAA.

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Page 29 of 54 19. The controversy whether the Assessee had a PE in India during the relevant period has to be answered in the context of the aforesaid provisions of the DTAA. Concededly, the Assessee had established a Project Office at Mumbai in 2005. This was also intimated to the Reserve Bank of India by a letter dated 24th January, 2006. It is also not disputed that the Assessee did carry on part of its business through its Project Office. In the circumstances, the conditions as spelt out in para 1 and paragraph 2(c) of Article 5 of the DTAA are satisfied. However, the matter does not rest here; it is next to be seen whether any of the exclusionary clauses of paragraph 3 of Article 5 of the DTAA are applicable. As stated before, Paragraph 3 of Article 5 of the DTAA begins with a non-obstante clause and, thus, the exclusion provided under paragraph 3 of Article 5 of the DTAA would override paragraph 1 and 2 of Article 5 of the DTAA. Thus, even though the Assessee’s Project Office established in Mumbai falls within the definition of PE in terms of paragraph 1 and 2 of Article of DTAA, it would still have to be seen whether it stands excluded under paragraph 3 of Article 5 of the DTAA. Clause (e) of paragraph 3 of Article 5 of the DTAA is relevant and it expressly provides that notwithstanding the provisions of paragraph 1 and paragraph 2 of Article 5, a PE would not include “maintenance of a fixed place of business solely for the purposes of carrying on, for the enterprise any other activity of a preparatory or auxiliary character”. The Assessee contends that its Project Office falls within this exclusionary clause.

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Page 30 of 54 20. It is clear from the plain language of paragraph 1 of Article 5 as well as Article 5(3)(e) of the DTAA that the functions performed at an office maintained by an enterprise would be vital to determine whether the office could be construed to be the PE of that enterprise for the purposes of the DTAA. First of all, the business of an enterprise must be carried on, wholly or partially, through the office in question; secondly, the business activity carried on must not be that of a preparatory or auxiliary character. The question, thus, arises is whether the activities carried out by the Assessee through its Project Office at Mumbai are that of a preparatory or auxiliary character. This is the bone of contention between the Revenue and the Assessee. 21. The Assessee had established its office at Mumbai in 2005, intimation to this regard was sent by the Assessee to the Reserve Bank of India on 24th January, 2006. The said office was established as a ‘project office’ within the meaning of Section 2(f) of the Foreign Exchange Management (Establishment in India of Branch or Office or Other Place of Business) Regulations, 2000. The definition of ‘project office’ expressly excludes liaison office as defined under Section 2(e) of the said Act. ‘Liaison Office’ and ‘Project Office’ are defined under Clause (e) and (f) of Section 2 of the said Act as under:- “(e) ‘liaison office’ means a place of business to act as a channel of communication between the principal place of business or Head Office by whatever name called and entities in India but which does not undertake any commercial/trading/industrial activity, directly or

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Page 31 of 54 indirectly, and maintains itself out of inward remittances received from abroad through normal banking channel; (f) ‘Project Office’ means a place of business to represent the interests of the foreign company executing a project in India but excludes a Liaison office.”

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Page 32 of 54 stone payment formula provided in the bidding document at Annexure-E of Agreement. Such certification of the Work completed shall be made by the Company’s Representative within 15 days of receipt of Contractor’s Application for Certification with all required supporting documents. No payments shall become due and payable to the Contractor until Contract is signed by the two parties and Contractor furnishes to the Company Performance Guarantee (as per Clause 3.3) and Certificate of insurance for Policy/Policies specific for the project and other policies (as per requirement of Cl.7.3) and a copy of permission from Reserve Bank of India for opening Project office in India (in the case of foreign bidders).”

A clause similar to the one above was also agreed to between ONGC and the Assessee under the C-Series Contract. 24. It is the Assessee’s case that its office at Mumbai was opened only to comply with contractual requirements and the exchange control regulations and was used only as a communication channel and not for the execution of the Contracts. The Project Office was only used for the purposes of correspondence and as a communication channel; apart from that, the Project Office had no role to play in the execution of the activities under the Contracts and no other business of the Assessee was carried on through the Project Office. The Project Office was manned by three employees; (i) Ravi K. Prabhakar; (ii) Pavithran; (iii) Vijayan. While Ravi K. Prabhakar was designated as a Logistics Coordinator, Pavithran and Vijayan were employed as Office Assistants. The said persons were only engaged in collecting information from ONGC or ASL and transmitting the same to the Assessee’s office in Abu Dhabi and similarly transmitting communications from Assessee’s office in Abu Dhabi to ONGC

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Page 33 of 54 and ASL. It is claimed that the abovenamed three employees were simple graduates and were not capable for participating in the execution of the work undertaken. The DRP had observed that Sh. M.N. Shah, Sh. M. Karkera, Sh. C.G. Pillai, Sh. P.K.G. Nair and Sh. R.L. Kulkarni, who were employees of the Project Office of the Assessee, had attended the kick-off meeting with ONGC on 16th December, 2005 and had also signed the minutes of that meeting. The DRP had proceeded on the basis that this fact was not disputed. The ITAT had also concurred with the aforesaid finding. However, it is seen that the Assessee had repeatedly pointed out that persons named were not employees of the Project Office. Further, there is no material which would support the findings that Sh. M.N. Shah, Sh. M. Karkera, Sh. C.G. Pillai, Sh. P.K.G. Nair and Sh. R.L. Kulkarni were employees at the Project Office. 25. In our view, in absence of any material, observations made with regard to the employees of the Project Office being present at the meeting cannot be sustained. Similarly, there is also no material that the employees of the Project Office had participated in review of the engineering documents done in Mumbai or had participated in the discussions or approval of the designs submitted to ONGC. In absence of any material evidence to controvert the Assessee’s claim that its Project Office was only used as a communication channel, the same has to be accepted. Thus, the next aspect to be considered is whether acting as a

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Page 34 of 54 communication channel would fall within the exception of clause (e) of paragraph 3 of Article 5 of the DTAA. 26. The language of sub-para (e) of paragraph 3 of Article 5 of the DTAA is similar to the language of sub-para (e) of paragraph 4 of Article 5 of the Model Conventions framed by OECD, United Nations as well as the United States of America. The rationale for excluding a fixed place of business maintained solely for the purposes of carrying on activity of a preparatory or auxiliary character has been explained by Professor Dr. Klaus Vogel. In his commentary on “Double Taxation Conventions, Third Edition”, he states that “It is recognised that such a place of business may well contribute to the productivity of the enterprise, but the services it performs are so remote from the actual realisation of profits that it is difficult to allocate any profit to the fixed place of business in question. Examples are fixed places of business solely for the purpose of advertising or for the supply of information or for scientific research or for the servicing of a patent or a know-how contract, if such activities have a preparatory or auxiliary character”. 27. A Division Bench of this Court in UAE Exchange Centre Limited (supra) considered a case where a UAE based enterprise maintained a liaison office in India and the only activity of that office was to download information contained in the main servers located in UAE on the basis of which cheques were drawn on banks in India. The said cheques were couriered or dispatched to

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Page 35 of 54 the beneficiaries in India keeping in mind the instructions of the remitters. This Court held that the said activity was only in aid and support of the main activity of the Assessee in that case and, thus, such activity was auxiliary in character. In DIT (International Taxation) v. Morgan Stanley & Company Inc.: (2007) 292 ITR 416 (SC), the Supreme Court held that the back office operations carried on at an office would fall within the exclusionary clause of Article 5(3)(e) of the Treaty between India and United States which is also identically worded as Article 5(3)(e) of the DTAA. 28. The Black's Law Dictionary defines the word 'auxiliary' to mean as "aiding or supporting, subsidiary". The word 'auxiliary' owes its origin to the Latin word 'auxiliarius' (from auxilium meaning 'help'). The Oxford Dictionary defines the word 'auxiliary' to mean "providing supplementary or additional help and support". In the context of Article 5(3)(e) of the DTAA, the expression would necessarily mean carrying on activities, other than the main business functions, that aid and support the Assessee. In the context of the contracts in question, where the main business is fabrication and installation of platforms, acting as a communication channel would clearly qualify as an activity of auxiliary character - an activity which aids and supports the Assessee in carrying on its main business.

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Page 36 of 54 29. In view of the above, the activity of the Assessee’s Project Office in Mumbai would clearly fall within the exclusionary clause of Article 5(3)(e) of the DTAA and, therefore, cannot be construed as the Assessee’s PE in India. 30. We are also unable to accept Mr Sahni’s contention that in view of the decision in the case of Goetze (India) Ltd. (supra), the Assessee was not entitled to contend that it had no PE in India for several reasons. First and foremost, in the present case, the Assessee's return was not accepted and the AO questioned the attribution of income to the Assessee’s PE. In such circumstances, it would be open for the Assessee to point out that its office in India did not carry out any activities to which any income from the project could be attributed. In order to determine the Assessee’s income attributable to its Project Office at Mumbai, it was necessary to examine the role played by the Assessee’s Project Office and its involvement with the activities to be conducted under the contracts. In view of the nature of the enquiry, it would always be open for the Assessee to explain that the Project Office was only involved as a communication channel and was not involved in any of the main activities required for execution of the contracts. Secondly, the decision in the case of Goetze (India) Ltd. (supra) does not fetter the Appellate Authority from considering the claim made by an Assessee. The limitation as expressed is only with regard to the AO.

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Page 37 of 54 31. Thus, the first question framed in the Assessee’s appeals is answered in the negative, that is, in favour of the Assessee and against the Revenue. 32. It is also relevant to state that the exclusionary clause of Article 5(3)(e) would apply equally to a place of business falling within the Article 5(2)(h) as it would be an office falling within the scope of Article 5(2)(c) of the DTAA. Thus, the Assessee also cannot be stated to have a permanent establishment under Article 5(2)(h) of the DTAA. In this view, although it is not necessary to consider the second question, nonetheless, we consider it appropriate to do so. 33. In terms of clause (h) of paragraph 2 of Article 5 of the DTAA, “a building site or construction or assembly project or supervisory activities in connection therewith” would also constitute a PE of an enterprise subject to that site, project or activity continuing for a period of atleast nine months. Clearly, the purpose of the said clause is also to include a building site or a construction or an assembly project as a PE by itself. On a plain reading, a PE constituted by a building site or a construction or an assembly project, would commence on the commencement of activities relating to the project or site. The said clause is also to be read harmoniously with paragraph 1 of Article 5 of the DTAA which necessarily entails a fixed place of business from which the business of an enterprise is carried on. Thus, a building site or an assembly project could be construed as a fixed place of business only when an enterprise commences its activity at the project site. An activity which may be related or incidental to the

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Page 38 of 54 project but which is not carried out at the site in the source country would clearly not be construed as a PE as it would not comply with the essential conditions as stated in paragraph 1 of Article 5 of the DTAA. It is necessary to understand that a building site or a construction assembly project does not necessarily require an attendant office; the site or the attendant office in respect of the site/project itself would constitute a fixed place of business once an Assessee commences its work at site. Thus, for clause (h) of paragraph 2 of Article 5 to be applicable, it is essential that the work at site or the project commences – it is not relevant whether the work relates to planning or actual execution of construction works or assembly activities. Preparatory work at site such as construction of a site office, a planning office or preparing the site itself would also be counted towards the minimum duration of a PE under Article 5(2)(h) of DTAA. In a given case, establishment of an office or any work which directly serves the operations at site may also be construed as a part of the building site, or construction or assembly project. The essence of a PE under Article 5(2)(h) is a building site or a construction or assembly project and the activities of an enterprise relating thereto in the source country. 34. At this stage, it would also be relevant to refer to the following extract from the commentary by Klaus Vogel on “Double Taxation Conventions, Third Edition”:-

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Page 39 of 54 “the minimum period begins when the enterprise starts to perform business activities on the spot in connection with a building site or construction or assembly project. The term ‘on the spot’ should, in these instances, not necessarily be taken to denote the actual place where the building works, etc., are to be accomplished, for instance, in cases where a planning office for the construction work is installed at some other place. In such an event, preparatory and ancillary work is already connected with the building works proper, provided the former directly serve the operation of the building site (likewise OstBMF 3 SWI 19 (1993): DTC Austria; USSR). Providing for such an early beginning of the minimum period is the best way of taking the technical and economic nature of building works into account and it also avoids the practical difficulties of having to draw the line between ancillary activities and ‘building works proper’….”

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Page 40 of 54 9 days in one instance and 27 days in another (from 27.02.2006 to 07.03.2006 and 25.04.2006 to 21.05.2006). The Assessee commenced its activities at site when the barges entered into the Indian territory on 19.11.2006 and such activities relating to the installation, testing and commissioning of the platforms continued till 27.04.2007. Thus, the Assessee's activity at site would indisputably commence on 19.11.2006 and continue till 20.04.2007, that is, for a period of less than nine months. 38. The initial activities at site were carried on by an independent sub- contractor appointed by the Assessee. If the commencement of the activities of the sub-contractor is considered, the same commenced on 27.02.2006 and were concluded by 21.05.2006. It is seen that there is a large gap between the commencement of initial activities of pre-engineering survey and the commencement of installation works. The issue to be addressed is whether such interruptions should be excluded from the minimum duration period. An interruption in the normal course of activities such as weekly day off would undoubtedly be included in the duration of the PE but in cases where interruption exceeds substantial periods which represent cessation of the activities at site, it would be difficult to accept that the building/project site continues to represent a fixed place of business of an enterprise. Reference to the commentary by Klaus Vogel on Double Taxation Conventions on this

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Page 41 of 54 aspect is also instructive. The relevant passage from the said text is quoted below:- “Long interruptions lead to a suspension of the minimum time period if the continuation of the work is functionally related with the work performed prior to the interruption (see Schieber, P.-H., supra m.no.1, at 268; in contrast Skaar, A., supra m.no.1, at 390).”

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Page 42 of 54 40. We are also unable to accept the Revenue’s contention that since the duration of the project itself exceeded nine months, the duration test under Article 5(2)(h) of DTAA would stand satisfied. A careful reading of Article 5(2)(h) of DTAA indicates that it is necessary that the ‘site, project or activity continues for a period of more than nine months’. It is an implicit condition that the enterprise should be involved at the site or involved in the assembly project in the source country. In the present case, the installation activities lasted from 19.11.2006 to 27.04.2007, which is much less than the minimum period of nine months. 41. Even if the time spent by ASL in conducting the pre-engineering, pre- design survey is included, the duration of the project activities in India would not exceed nine months. The Assessee’s Project Office is inextricably linked to the project. Therefore, if the duration of the project activities in India was less than nine months, it cannot be held that the Assessee had a PE in India under Article 5(2)(h) of the DTAA. 42. In view of the above, answer to the second question is in the negative, that is, in favour of the Assessee and against the Revenue. 43. The next issue to be addressed is whether ASL could be construed as a DAPE of the Assessee within the meaning of Article 5(4) of the DTAA. The Assessee has placed on record the Director’s Report and the final accounts of ASL for the financial year ended 31st March, 2007. The same indicates that

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Page 43 of 54 during the year 2006-07, ASL earned a gross income of Rs.54.42 crores. The Director’s of ASL in their report for the year 2006-07, inter alia, reported as under:- “….Your Directors are pleased to inform that during the year under review the company continued its regular activities i.e. Shipping, Ship Owning/Chartering, Barge Owning, Lighterage, Transportation, Offshore Marketing/Technical Consultancy and Offshore Fabrication and Installation work. The Company provides all logistic and consultancy support to NPCC, Abu Dhabi, Valentine Maritime (Gulf) LLC, Abu Dhabi and Valentine Maritime (Mauritius) Ltd., Mauritius and other Indian Companies for their various Offshore Contracts towards Construction of Oil & Gas production/process Platforms and Pipelines at Mumbai High for ONGC & other Indian/Foreign Companies. The company is qualified to bid as approved Offshore Project Contractor for ONGC, MDL, L&T, EIL, HHI, etc. The Company also continued to provide logistic, technical and marketing support to M/s. Winco Maritime Ltd., London in Technical & Commercial Management of their cargo vessels in worldwide trading and also in Indian Coastal Traffic. 3) OFFSHORE ACTIVITIES: Your Directors are pleased inform that your Company in association with subsidiary Company M/s. Supreme Offshore Construction & Technical Services Ltd, have executed a Prestigious Contract for Modification works of 4 Well Platform Project of ONGC, through, NPCC, Abu Dhabi, who are the main Contractor. The Contractor included Engineering, Procurement, Fabrication and the offshore installation which is under execution now. Further your Company also provided Agency Services/Logistic Support etc to VMGL/VMML during their execution of JERP Project of Reliance as main contractor. Similar Services were also provided by your Company to VMML for execution of Erection & Pre-commissioning of Offshore Crude Handling Project of Essar Port Terminals, Vadinar. The Services to all the above projects were rendered to the satisfaction of clients.”

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Page 44 of 54 44. It is apparent from the above that ASL’s activities were not limited to providing services to the Assessee but extended to various other activities. ASL also provided logistics and consultancy support to various companies other than the Assessee. The Director’s Report also clearly indicates that the activity of providing offshore marketing/technical consultancy and offshore fabrication and installation work were amongst the regular activities carried on by ASL. 45. The Assessee has also placed on record a copy of the consultancy agreement dated 26th December, 1994 entered into with ASL. Clause 1, 2 & 3 are relevant and are quoted below:- “Clause 1 The Consultant hereby agree to act as the sole and exclusive Consultant for the Principal in India and shall not represent any competitor to the Principal nor act in a manner which could be detrimental to the Principal's interests. Clause 2 The Principal shall in its name bid and execute contracts related to the works above defined. Clause 3 The Consultant shall provide the Principal with the following services: (a) Assistance in the gathering of relevant market information. (b) Assistance in obtaining works and active representation, promotion and support of the Principal's activities in India. (c) Assistance in obtaining services and facilities in India.”

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Page 45 of 54 46. It is clear from the above that ASL had agreed to act as a ‘sole and exclusive’ consultant for the Assessee in India and had further agreed not to represent any competitor of the Assessee or act in a manner detrimental to the Assessee’s interest. The recital to the agreement also indicates that the Assessee was desirous to undertake offshore contract work in India and had, therefore, appointed ASL as its sole and exclusive consultant in India. The consultancy agreement did not fetter ASL to carry on its regular activities including providing consultancy services to persons other than the Assessee’s competitors. The financial accounts of ASL also clearly indicate that it had earned substantial income other than the remuneration received/receivable from the Assessee. 47. In view of the above, the ITAT’s conclusion that ASL was working ‘wholly and exclusively’ for the Assessee, is clearly not sustainable. There was no material which would justify this conclusion. The consultancy agreement clearly indicates that ASL was engaged to (a) provide assistance in gathering relevant market information; (b) assistance in obtaining works; (c) active representation and promotion of the Assessee’s activities in India; and (d) provide assistance in obtaining services and facilities in India. Clause 2 of the consultancy agreement clearly indicates that the contracts would be tendered for and executed by the Assessee. The Assessee had also duly disclosed ASL to be its agent involved in the contract as well as the remuneration payable to ASL.

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Page 46 of 54 The representatives of ASL were present at the pre-bid meeting held with ONGC on 23rd August, 2005 as well as at the kick-off meeting held on 16th December, 2005 as representatives of the Assessee. The presence of ASL at such meeting was clearly in pursuance of the services agreed to be rendered by them. However, this by itself cannot lead to an inference that ASL constituted a DAPE of the Assessee in India. 48. At this stage, it would be relevant to refer to Article 5(4) and 5(5) of the DTAA which reads as under:- “4. Notwithstanding the provisions of paragraphs 1 and 2, where a person – other than an agent of independent status to whom paragraph 5 applies – is acting on behalf of an enterprise and has, and habitually exercises in a Contracting State an authority to conclude contracts on behalf of the enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to the purchase of goods or merchandise for the enterprise. 5. An enterprise of a Contracting State shall not be deemed to have a permanent establishment in the other Contracting State merely because it carries on business in that other State through a broker, general commission agent or any other agent of an independent status, provided that such person are acting in the ordinary course of their business. However, when the activities of such an agent are devoted wholly or almost wholly on behalf of that enterprise, he will not be considered an agent of an independent status within the meaning of this paragraph.”

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Page 47 of 54 whom paragraph 5 applies; (b) the agent acts on behalf of the enterprise; and (c) the agent habitually exercised authority to conclude contracts on behalf of the enterprise. 50. By virtue of paragraph 5 of Article 5 of the DTAA, an enterprise shall not be deemed to have a permanent establishment merely because it carries on business in a contracting state through a broker, general commission agent or any other agent of an independent status provided that such persons act in their ordinary course of business. Thus, even an independent agent who acts outside its ordinary course of business would fall outside the scope of paragraph 5 of Article 5 of the DTAA. Therefore, in order to consider whether an agent of an enterprise falls within the ambit of paragraph 5 of Article 5 of the DTAA, it is necessary to consider whether (a) the agent is one of an independent status and (b) whether he is acting on behalf of the enterprise in the ordinary course of its business. Applying the aforesaid tests in the facts of the present case, it is at once clear that ASL has acted on behalf of the Assessee in its normal course of business. This is evident from the Director’s Report which indicates that regular activities of ASL include offshore marketing/technical consultancy and ASL in its regular course of business provides logistics and consultancy support to various entities including the Assessee. It is also apparent from the final accounts of ASL for the year 2006-07 that it carries on substantial business

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Page 48 of 54 other than the services provided to the Assessee. The agreement entered into between the Assessee and ASL is also on principal-to-principal basis. 51. Even otherwise, there is material to support the view that the Assessee would bid and execute contracts in its name. The consultancy agreement does not authorise ASL to conclude contracts on behalf of the Assessee. It is also noteworthy that while the officials of ASL were present at the kick-off meeting held on 16th December, 2005, so were the other officers of the Assessee. Although, the correspondence between the Assessee and ASL indicated that ASL was involved in the project since the pre-bid meeting and had also acted on behalf of the Assessee, it cannot be concluded that ASL was habitually authorised to conclude contracts on behalf of the Assessee. 52. In view of the above, ASL cannot but be considered as an agent of independent status to whom paragraph 5 of Article 5 of the DTAA applies. In this view, ASL would not constitute a DAPE of the Assessee in India. 53. In view of our conclusion that the Assessee did not have a permanent establishment in India, the question of attributing any income of the Assessee to the PE does not arise. However, the ITAT has erroneously held that the Assessee has a PE in India. Although the ITAT has held so, it has not quantified the income attributable to the PE. Thus, the answer to question no.4 framed in the Assessee’s appeal is answered in favour of the Assessee and against the Revenue.

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Page 49 of 54 54. Insofar as the question whether the decision of the ITAT is contrary to Article 7(6) of the DTAA is concerned, we find that the AO as well as the ITAT had provided reasons for adopting the method of computation of the income of the Assessee. The ITAT had also found that there was no basis for the method adopted by the Assessee. This, in our view, would be a sufficient reason for not following the method of computation of taxable income as adopted in the preceding years. Although, the Assessee had claimed that Section 44BB and the CBDT Instruction No.1767 provided the legal basis for the method of computation of taxable income adopted by the Assessee, the same is clearly erroneous. Section 44BB of the Act provides for levying tax on a presumptive basis and 10% of the receipts are presumed to be the profits of a foreign company rendering the services specified therein. There is no scope for allowing any deduction while computing tax on a presumptive basis. The method of computation as adopted by the Assessee is also not supported by the CBDT Instruction No. 1767 referred to by the Assessee. 55. In view of the above, question no.5 framed in the Assessee’s appeals is answered in the affirmative, that is, in favour of the Revenue and against the Assessee. 56. The question framed in the appeals preferred by the Revenue essentially pertains to the attribution of income arising from the contracts in question for the purpose of taxing the same under the Act. In the present case, we have

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Page 50 of 54 concluded that the Assessee does not have a PE in India in terms of the DTAA, thus, the question of splitting the business profits of the Assessee arising from the contract into profits attributable to India and profits attributable to the Assessee overseas does not arise. In this view, it is not necessary to address the questions raised by the Revenue. However, for the sake of completeness, we consider it appropriate to address the said question on an assumption that the Assessee did have a PE in India during the relevant period. 57. Section 4 of the Act is a charging section by virtue of which income tax is charged in respect of the total income of every person. The scope of total income is described under Section 5 and by virtue of Section 5(2) of the Act, the total income of a person who is a non-resident includes income which - "(a) is received or is deemed to be received in India in such year by or on behalf of such person ; or (b) accrues or arises or is deemed to accrue or arise to him in India during such year."

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Page 51 of 54 whether the incomes attributable to design, procurement of material and fabrication of platforms are otherwise taxable under the Act and assuming it is so, it would still have to be determined whether such income is taxable under the Act in terms of the DTAA and, for the aforesaid purpose, it is necessary to refer to Article 7 of the DTAA, which provides for taxation of business profits. Paragraphs 1, 2 & 3 of Article 7 are relevant and are reproduced as under:- "1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment. 2. Subject to the provisions of paragraph (3), where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment. 3. In determining the profits of a permanent establishment, there shall be allowed as deductions expenses which are incurred for the purposes of the business of the permanent establishment, including executive and general administrative expenses so incurred, whether in the State in which the permanent establishment is situated or elsewhere, in accordance with the provisions of and subject to the limitations of the tax laws of that State." 59. It is apparent from the plain reading of the above quoted paragraphs that only such income as is attributable to a UAE based Assessee's PE in India can

ITA 143/2013 & Other Connected Matters

Page 52 of 54 be taxed. In Hyundai Heavy Industries (supra), the Supreme Court had explained that the only way to ascertain the profits arising in India would be by treating the Assessee's permanent establishment in India as a separate profit centre viz-a-viz the foreign enterprise. The Court held as under:- “The Indian Income-tax Act, 1961 is concerned only with the profits earned in India and, therefore, a method is to be found out to ascertain the profits arising in India and the only way to do so is by treating the Indian permanent establishment as a separate profit centre vis-a-vis. the foreign enterprise (the Korean GE, in the present case). This demarcation is necessary in order to earmark the tax jurisdiction over the operations of a company. Unless the permanent establishment is treated as a separate profit centre, it is not possible to ascertain the profits of the permanent establishment which, in turn, constitutes profits arising to the foreign GE in India. The computation of profits in each permanent establishment (taxable jurisdiction) decides the quantum of income on which the source country can levy the tax. Therefore, it is necessary that the profits of the permanent establishment are computed as independent units. However, in a case where the Government of India has entered into a tax treaty with a foreign country (Korea, in the present case) then in relation to an assessee to whom such tax treaty applies, the provisions of the Act shall apply only to the extent to which the provisions thereof are more beneficial to the assessee.”

ITA 143/2013 & Other Connected Matters

Page 53 of 54 ascertainable. There is no dispute that the values ascribed to the activities under the contracts are not at Arm's Length. There is also no material to indicate that the work done outside India included any input from the Assessee's PE in India. The ITAT had considered the contract and in view of the fact that the consideration for various activities such as design and engineering, material procurement, fabrication, transportation, installation and commissioning had been separately specified, the Tribunal rightly held that the consideration for the activities carried on overseas could not be attributed to the Assessee's PE in India. 61. We find no infirmity with the aforesaid view. In the circumstances, the first two questions framed in the Revenue's appeal are answered in the negative, that is, in favour of the Assessee and against the Revenue. Since the second question has been answered against the Revenue, the third question does not arise for consideration. 62. In view of the conclusion that the Assessee did not have a PE in India during the AYs 2007-08 and 2008-09, no income of the Assessee from the projects in question can be attributed to the Assessee’s PE. The assessment orders dated 26th October, 2010 and 18th November, 2011 for the AYs 2007-08 and 2008-09 respectively as well as the corresponding orders passed by the ITAT in the corresponding appeals are set aside.

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Page 54 of 54 63. The appeals are disposed of in the above terms. The parties are left to bear their own costs.

VIBHU BAKHRU, J

S. MURALIDHAR, J JANUARY 29, 2016 RK