DCIT (IT)-4(3)(2), MUMBAI vs. WNS NORTH AMERICA INC, MUMBAI

Date of hearing : 08-11-2016 Date of order : 25 -11-2016 O R D E R

Per ASHWANI TANEJA, AM:

“1. "On the facts and in the circumstances of the case and in law, the Hon'ble DRP erred in holding that the receipt of Rs.10,76,41,998/- does not qualify as "Royalty" under Article 12(3)(b) of the India USA DTAA. Even while assuming the argument sake without admitting that the receipts of Rs. 10, 76,41,998/- does not qualify as 'royalty' under Article 12 of India USA DTAA, the same would be liable to be taxed as business profit under Article 7 read with Article 5 of India USA DTAA in view of the Force of attraction rule. " 2. "On the facts and in the circumstances of the case and in law, the Hon'ble DRP erred in holding that the receipt of reimbursement of expenses amounting to Rs.15,21,74,498/- does not qualify as FIS under Article 12 (4)(b) of the India-USA DTAA. Even while assuming for the argument sake without admitting that the receipts of same does not qualify as 'FIS' under Article 12 (4) (b) of India USA DTAA, the same would be liable to be taxed as business profit under Article 7 read with Article 5 of India USA DTAA in view of the Force of attraction rule."

3. The Appellant prays that the order of the DRP be set aside on the above ground(s) and the draft order of the Assessing Officer be restored.” [ 2. Ground 1: In this ground, the Revenue is aggrieved by the order of the DRP in holding that receipt of reimbursement of international telecom connectivity charges amounting to Rs.10,76,41,998/- does not qualify as royalty under Article 12(3)(b) of Indo-US DTAA.

7. Directions of the DRP: The assessee's submissions have been considered. A reference to the decisions passed in assessee's own case by the Mumbai ITAT forA.Yrs.2005-06 and 2006-07 and the decision of the Bombay High Court affirming the decision of the ITAT for A.Yrs.2003-04 and 2004-05 clearly shows that the impugned amounts have been treated as pure reimbursement not liable to tax in India. The ITAT has also held that the impugned sums are hot in the nature of royalty as they do not permit the use of or right to use any industrial, commercial or scientific equipment. Respectfully following the various decisions in assessee's own case, rendered by the Hon'ble ITAT and Bombay High Court, the AO is hereby directed to delete the proposed addition to assessee’s income.

“3.1. Second issue raised in this appeal is against the reimbursement of international telecom connectivity charges received by the assessee from WNS India which have been held by the AO to be taxable under Article 12 of the DTAA as Royalty. The facts apropos this issue are that the assessee received reimbursement of lease line charges amounting to Rs. 6,41,87,580 from WNS India. The A.O. called upon the assessee to explain as to why the reimbursement of such expenses should not be considered as royalty liable to tax under Article 12 of DTAA. The assessee submitted that WNS India is in the business of providing software and IT enabled services to clients located outside India. For transmitting the data from the unit of the WNS India to the customers located outside India, WNS India availed the services of the domestic as well as International telecom operators. The assessee paid these international telecom connectivity charges to the International telecom operators for the services utilized by WNS India outside India and the same was accordingly reimbursed by WNS India to the assessee. It was stated that these recoveries represented reimbursement at cost of the expenses incurred by the assessee for and on behalf of WNS India without any mark up. Similar submissions were also advanced before the DRP contending that the reimbursement of international telecom connectivity charges was without any profit element and hence the same could not be considered as its income. Not convinced with the assessee’s submissions, the A.O. treated the payment received from WNS India towards reimbursement of international telecom connectivity charges amounting to Rs. 6.41 crores as royalty taxable as per Article 12 of the DTAA. In reaching this conclusion, the A.O. followed his order for the earlier year on this issue. The assessee is before us assailing the treatment given by the authorities below to such reimbursement of expenses as royalty. 3.2. The ld. AR relied on the order passed by the tribunal for the earlier year deciding such issue in favour of the assessee. Per contra, the learned Departmental Representative opposed such view taken by the tribunal and insisted that the same should not be followed due to insertion of Explanation 5 by the Finance Act, 2012 w.r.e.f. 1.6.1976 which gives proper meaning to clause (iva) to Explanation (2) below section 9(1)(vi). He submitted that the clause (iva) clearly provides that royalty means any consideration for the use or right to use any industrial, commercial or scientific equipment…..’. Inviting our attention towards Explanation (5) inserted by the Finance Act, 2012 with retrospective effect, the ld. DR stated that the same clarifies that the royalty includes … consideration in respect of any right, property or information whether or not -- (a) the possession or control of such right, property or information is with the payer; (b) such right, property or information is used directly by the payer …’. It was contended that the insertion of Explanation (5) by the Finance Act, 2012 with retrospective effect also covering the year under consideration has changed the entire complexion of the case and it has necessitated observing departure from the earlier order of the tribunal which was passed without the assistance of such legislative amendment coming on the statute after the passing of such order. The learned Departmental Representative contended that the payment received by the assessee in the instant case is in respect of allowing WNS India the user of the equipment without taking its personal possession and hence consideration for such user amounts to royalty. It was, therefore, submitted that the order passed by the Tribunal for the earlier year should not be followed because of insertion of Explanation (5) by the Finance Act, 2012 with retrospective effect covering the period relevant to the A.Y. under consideration. 3.3. We have heard the rival submissions and perused the relevant material on record. Here again it is noticed that similar issue was raised before the Tribunal in assessee’s own case for the earlier year. Vide the afore- noted order, the Tribunal has held that the reimbursement of lease line charges received by the WNS India is not chargeable to tax in India as such payment was not in respect of use of any equipment so as to be called as royalty. Further the Tribunal held that it was a case of reimbursement of the lease line charges which did not include any mark up or profit and such reimbursement of actual expenses could not treated as royalty income chargeable to tax. 3.4. Now we take up the contention of the ld. DR urging us to deviate from the view canvassed by the tribunal in the earlier year. The contention of the ld. DR is two-fold. First, that any retrospective amendment to the provisions of the Act is relevant for determining the taxability or deductibility of an amount even under the provision of the DTAA and second, the amount in question, when examined in the light of Explanation 5 to sec. 9(1)(vi) inserted retrospectively clearly, brings it in the scope of `royalty’. 3.5. We espouse the first segment of the contention of the ld. DR that the retrospective amendment to the provisions of the Act per se should be considered for determining the taxability of the amount even under the DTAA. It is trite that under normal circumstances the retrospective amendment of any provision of the Act mandates it to be followed from the date from which such retrospective effect is given. In such a situation it is considered as if for all practical purposes the provision was there on the statute from such earlier date. Accordingly the assessments and other proceedings under the Act have to move with the presumption of existence of such provision from the earlier date. Any assessment order, which when originally passed in accordance with the law as prevailing at that point of time, shall require amendment if there is some retrospective amendment to the provision germane to the issue, of course, subject to other provisions of the Act. 3.6. However, position is slightly different when there is a Double taxation avoidance agreement with another country. Sub-section (1) of section 90 of the Act provides that the Central Government may enter into an Government of any other country for the granting of relief of tax in respect of income on which tax has been paid in two different tax jurisdictions. Sub-section (2) of section 90 unequivocally provides that where the Central Government has entered into an agreement with the Government of any country outside India under sub-section (1) for granting relief of tax or for avoidance of double taxation, then, in relation to the assessee to whom such agreement applies, Rs. the provisions of this Act shall apply to the extent they are more beneficial to that assessee’. The crux of sub- section (2) is that where a DTAA has been entered into with another country, then the provisions of the Act shall apply only if they are more beneficial to the assessee. In simple words, if there is a conflict between the provisions under the Act and the DTAA, the assessee will be subjected to the more beneficial provision out of the two. If the provision of the Act on a particular issue is more beneficial to the assessee vis-a-vis that in the DTAA, then such provision of the Act shall apply and vice versa. The Hon’ble Supreme Court in the case of CIT v. P.V.A.L. Kulandagan Chettiar [(2004) 267 ITR 654 (SC)] has held that the provisions of sections 4 and 5 are subject to the contrary provision, if any, in DTAA. Such provisions of a DTAA shall prevail over the Act and work as an exception to or modification of sections 4 and 5. Similar view has been taken by the Hon’ble jurisdictional High Court in CIT v. Siemens Aktiongesellschaft [(2009) 310 ITR 320 (Bom.)]. In the light of the above discussion it becomes vivid that if the provisions of the Treaty are more beneficial to the assessee vis-à-vis its counterpart in the Act, then the assessee shall be entitled to be ruled by the provisions of the Treaty. 3.7. We come back to the contention of the ld. DR that the retrospective amendment to the provisions of the Act should be considered for determining the taxability of the amount even under the DTAA. This contention, in our considered opinion, is partly correct. Any amendment carried out to the provisions of the Act with retrospective effect shall no doubt have the effect of Act but will not per se have the effect of automatically altering the analogous provision of the Treaty. There are certain provisions in some Treaties which directly recognize the provisions of the domestic law. For example, Article 7 in certain Conventions provides that the deductibility of expenses of the permanent establishment shall be subject to the provisions of the domestic law. In such a case, if any retrospective amendment is made to the provisions of the Act governing the deductibility of the expenses, the same shall apply under the Treaty as well. 3.8. Article 23 in certain Treaties including that of India with Mauritius is `Elimination of Double taxation’. Para 1 of Article 23 in Mauritius Treaty provides that: “The laws in force in either of the Contracting States shall continue to govern the taxation of income in the respective Contracting States except where provisions to the contrary are made in this Convention”. First part of para 1 of Article 23 makes out a general rule that if income of the permanent establishment is to be computed in India, then the provisions of the Act shall govern the taxation of income in India. However, the second part of para 1 of Article 23 contains a qualification, which makes the operation of the first part of para 1 of Article 23 subject to the fulfilment of such stipulation. The word “except” is the dividing contour between the main provision and the qualification part. The portion starting thereafter enumerates the qualification, which is ‘where provisions to the contrary are made in this Convention’. When we read full text of para 1 of Article 23, it becomes manifest that if there is some provision in the Treaty contrary to the domestic law, then it is the provision of the Treaty which shall prevail. Thus the general rule contained in the first part of para 1 of Article 23, being the applicability of the domestic law, has cast a shadow on any provision to the contrary in the Treaty. In case there is no contrary provision in the Treaty, then it is the domestic law which shall apply. If however, there is some provision in the Treaty contrary to the domestic Treaty which shall override the provision in the domestic law in the computation of income as per the Treaty. Coming back to our context, if the retrospective amendment is in the realm of a provision of which no contrary provision is there in the Treaty, then such amendment will have effect even under the DTAA and vice versa. 3.9. Article 3(2) in most of the Treaties including the India-USA DTAA provides that any term not defined in the Convention shall unless the context otherwise requires, have the meaning which it has under the laws of that State concerning tax to which the Convention applies. The nitty-gritty of Article 3(2) in the present context is that if a particular term has not been defined in the Treaty but the same has been defined in the Act and further there is a retrospective amendment to that term under the Act, it is this amended definition of the term as per the Act, which shall apply in the Treaty as well. If however a particular term has been specifically defined in the Treaty, the amendment to the definition of such term under the Act would have no bearing on the interpretation of such term in the context of the Convention. A country who is party to a Treaty cannot unilaterally alter its provisions. Any amendment to Treaty can be made bilaterally by means of deliberations between the two countries who signed it. If there is no amendment to the provision of the Treaty but there is some amendment adverse to the assessee in the Act, which provision has been specifically defined in the Treaty or there is no reference in the Treaty to the adoption of such provision from the Act, again the mandate of section 90(2) shall apply as per which the provisions of the Act or the Treaty, whichever is more beneficial to the assessee shall apply. Going by such rule, the amendment to the Act shall have no unfavorable effect on the computation of total income of the assessee. 3.10. Reverting to the facts of the extant case, we observe that the term “royalty” has been defined in the DTAA as per Article 12(3). Such definition of the term Article is exhaustive. Pursuant to the insertion of Explanation (5) by the Finance Act, 2012, no amendment has been made in the DTAA to bring the definition of royalty at par with that provided under the Act. Subject matter of the Explanation is otherwise not a part of the definition of Royalty as per Article 12. As such, it is clear that the contention of the learned Departmental Representative that the retrospective insertion of Explanation 5 to section 9(1)(vii) should be read in the DTAA also, cannot be countenanced. 4.1. Be that as it may, we take up the second aspect of the contention of the ld. DR on this issue, as per which he stated that on merits, the Explanation 5 has made the amount in question as Royalty. We find that the receipt of Rs.6.41 crore cannot be considered as royalty even under the amended provisions of the Act. The facts are very briefly recapitulated that the assessee received the said sum as reimbursement of charges from WNS India which were paid by it for lease line to MCI WorldCom etc. In other words, the lease line services were availed by WNS India from MCI WorldCom etc., for which the assessee originally made the payment to such operators on behalf of WNS India and subsequently recovered the same from WNS India at cost without any mark up. The question is whether under these circumstances it can be said that the assessee got this consideration of Rs.6.41 crores in the nature of royalty? The case of the learned Departmental Representative rests on clause (iva) of Explanation (2) to section 9(1)(vi) along with Explanation (5). It has been contended that the amount be considered as royalty in the hands of the assessee because it is for allowing the use of equipment. We are unable to comprehend this point of view for the reason that such charges were not recovered by the assessee because of providing any access to lease lines owned or held by it. The mandate of clause (iva) of Explanation 2 along with Explanation 5 to section 9(1)(vi) is triggered when the consideration is received for the use or right to use any industrial, commercial or scientific equipment. The ld. DR vigorously argued that the payment received by the assessee in the instant case is in respect of allowing WNS India the user of the equipment without taking its personal possession and hence consideration for such user amounts to royalty. There is a basic fallacy in this contention. The international telecom operators who eventually received the amount for allowing the use of equipment are different parties and the assessee simply got the reimbursement of the amount paid by it to such telecom operators. This amount can be considered as royalty only in the hands of the owner or lessor or any other person entitled to permit the use of equipment and earning income in his own right from allowing the use of such equipment to others. By no stretch of imagination an intermediary, who makes payment to the owner of equipment on behalf of some person and then gets reimbursed for the said payment, can be considered as an owner or lessor etc. of the equipment so as to be considered u/s 9(1)(vi). The said amount may be considered as royalty in the hands of MCI WorldCom and other international operations under the provisions of the Act, who own the equipment and allowed use or right to use such equipment to WNS India. The assessee in the instant case simply paid a sum of Rs.6.14 crore to MCI WorldCom etc. in the first instance and then recovered the same from WNS India. Thus it is evident, the said sum is not royalty even as per section 9(1)(vi) of the Act. 5.1. Having held that the amount is not in the nature of royalty in the hands of the assessee, the next question which arises for our consideration is as to what is the correct nature of this amount and whether it is taxable as business profits as per article 7 ? There is no dispute on the legal issue that the reimbursement of expenses without any mark up cannot be considered as income in the hands of the assessee so as to attract taxability. 5.2. Reimbursement of expenses means that the expenses earlier incurred by a person on behalf of another are recovered as such. Ordinarily there is no element of profit in such reimbursement. Since there is no mark-up in such recovery, there can be no question of imputing any income on this issue in the hands of recipient. However, the onus to prove that there is no element of profit in such reimbursement is always on the assessee. Mere nomenclature of reimbursement is not relevant. The assessee is required to lead evidence to show that the expenses incurred are equal to the amount recovered. If the AO, on examination of the evidence, comes to the conclusion that the receipt is higher than the amount spent, then the excess is always taxable, notwithstanding the fact that the assessee named and claimed it as reimbursement of expenses. Not only the reimbursement of expenses should be without profit element, no attempt should be made to bifurcate the price of a contract into different parts with the intention of avoiding tax by slicing away a part of the total consideration of a contract, when the taxation is on gross basis as a percentage of contract value. The assessee cannot be allowed to show some part of the contract price distinctly as reimbursement of expenses, even without any mark-up, and hence claim exemption in this regard, when incurring of expenses for which such reimbursement is claimed, are towards the performance of contract 5.3. Different consequences follow in the hands of the payer and payee for making a claim of reimbursement of expenses having profit element; or treating a part of contract value as reimbursement of expenses even without any mark-up. Whereas in some cases such claim for reimbursement may be tax neutral, while in others it may have bearing on tax liability. From the angle of payee, it will be tax neutral if there is question of computing business profits as per Article 7 because of computation of such income on net basis. But, it will affect tax liability, if the tax is to be computed as per Article 12 by treating the amount as Royalty or Fees for technical services wherein the tax liability is determined on the gross amount itself. In the hands of non-resident payer, the claim for treatment of head office expenditure as reimbursement of expenses shall have bearing on the computation of deduction of head office expenditure as per section 44C of the Act. In the like manner, there are several provisions including Chapter X, which affect the amount of total income or the tax liability by wrong treatment of payment of expenses as reimbursement of expenses. The crux of the matter is that the payment of expenses is to be distinguished from and not intermingled with the reimbursement of expenses in the hands of payer as well as payee. In fact, it is the substance of the transaction which matters. The real character of a transaction cannot be cloaked under some superficial name. 5.4. Adverting to the facts of the instant case we find that the assessee undertook to carry out the marketing and sales promotion activities on behalf of WNS India by identifying the customers and establishing contact; soliciting inquiries from clients and rendering such services as may be required to present and market the business of WNS India. On the other hand, the payment claimed as reimbursement is admittedly for the use of international telecom connectivity paid by the assessee to the International telecom operators, for transmitting the data by WNS India to its customers located outside India. The international telecom connectivity charges are not related in any manner with the rendering of marketing and management services. By no standard, such a claim for reimbursement of expenses can be considered as division of the contract price so as to gain some tax advantage. 5.5. Now let us see, whether the claim for reimbursement of expenses in the hands of the assessee is with or without any profit component. It goes without saying that if reimbursement includes some profit element, then the tax liability cannot escape. It is noticed that the assessee made a categorical claim that the international telecom connectivity charges were paid to the international telecom operators for the services utilized by WNS India outside India and the WNS India without any mark up. This contention was raised not only before the A.O. but the DRP as well. Such contention has remained uncontroverted by the authorities below. This shows that the assessee has discharged the burden cast upon it to prove that the lease line charges recovered by it from WNS India were without any mark up so as to attract any possible taxation under Article 7 of the DTAA. One can possibly contend that since the AO taxed the gross amount of such reimbursement as Royalty, there could have been no occasion for him to deal with the contention of the assessee of not having earned any profit in such reimbursement to find out and thus tax such profit element from such reimbursement. However, an important factor which has persuaded us to hold that there is no mark up in such reimbursement in the present case is that the Assessing Officer followed the view taken by him in earlier year on this issue. When his order for the earlier year came up for adjudication before the Tribunal, a categorical finding has been recorded by the tribunal that there is no mark up in reimbursement of lease line charges. There is nothing on record to show that either the facts of the current year are different from those of the preceding year or the view taken by the tribunal has been modified or reversed by the Hon’ble High Court on this issue. Further, there is nothing to demonstrate that the Revenue preferred any miscellaneous application against such order, if it was convinced that the finding of the tribunal for was incorrect. In view of these facts, we are not inclined to accept the contention of the ld. DR for remitting the matter to the file of AO for verifying if there is any profit element in such reimbursement and then determine tax liability accordingly. Once it is held that there is no profit element in such reimbursement, it becomes manifest that the gross income of Rs.6.14 crore recovered by the assessee from WNS India is equal to the same amount paid by it to MCI WorldCom etc., thereby leaving no surplus liable to tax under Article 7 of the DTAA. This issue is decided in assessee’s favour and the consequential ground is allowed.”

9. It is further noted by us that this judgment has been subsequently followed by Tribunal in A.Y. 2007-08. It is also noted by us that orders for A.Y 2003-04, 2004- 05, 2005-06 and 2006-07 reached before the Hon’ble Bombay High Court wherein the orders of the Tribunal have been confirmed.

10. It has been further brought to our notice by the Ld. Counsel that the Dispute Resolution Panel (DRP) has also decided this issue in favour of the assessee in A.Ys 2010- 121, 2011-12 and 2012-13. It is noted that the order of the DRP for A.Y. 2012-13 dated 26-08-2015 reads as follows: “6. The assessee’s submissions have been considered. A reference to the decisions passed in assessee’s own case by the Mumbai ITAT for A.YS 2005-06 and 2006-07 and the decision of the Bombay High Court affirming the decision of the ITAT for A.Yrs 2003-04 and 2004-05 clearly shows that the impugned amounts have been treated as pure reimbursement not liable to tax in India. The ITAT has also held that the impugned sums are not in the nature of royalty as they do not permit the use of or right to use any industrial commercial or scientific equipment. Respectfully following the various decisions in assessee’s own case rendered by the Hon'ble ITAT and Hon'ble Bombay High Court and the order of the DRP for A.Y. 2010-11 & 2011-12 wherein it was held that the amount received by the assessee on account of lease line charges are in the nature of reimbursement and the same is neither taxable as royalty nor as any income of the assessee, however, the AO is directed to delete the proposed addition to assessee’s income.”

by the Revenue, and therefore, the same is dismissed.

7. Ground 2: In this ground, the Revenue is aggrieved by the action of the DRP in holding that receipt of reimbursement of expenses amounting to Rs.15,21,74,498 does not qualify as FIS under Article 12(4)(b) of Indo-US DTAA. It is noted by us that the DRP decided this issue in favour of the assessee by observing as under:- “9. Directions of DRP Identical issue arose in the assessee’s case for the earlier year A.Y. 2010-11. Respectfully following the decision of DRP date 19.11.2013, the AO is directed not to tax the impugned sum as FIS.”

8. During the course of hearing it was fairly submitted that facts and circumstances of the case remains the same and therefore earlier years’ order of the Tribunal may be followed.

17. We have gone through the orders passed by the lower authorities as well as the order of the Tribunal for earlier years. We find it relevant to reproduce the directions of the DRP from its order dated 26-08-2015 below:- “The Objection No:2 is against ti1e treatment given by the AO to a sum of Rs.17.71,35.633/- being reimbursement of expenses received from various WNS group companies in India. The AO has treated this sum as Fee for Included Services and brought the same to tax under Article 12(4) of the India USA DTAA. The assessee has, explained that during the P. Y various employees of WNS group companies situated in India visited US from time to time and expenses of their travel, accommodation, computer maintenance, telecommunication charges, printing and stationery, telephone expenses etc were incurred outside India on behalf of these employees. The assessee has explained that the expenses were initially incurred by the assessee and subsequently recovered from these WNS group companies in India. it is submitted by the assessee that these are purely in the nature of reimbursement of cost without any mark-up and hence they do not constitute income in the hands of the assessee. The AO however has held these amounts as FIS under the lndo USA DTAA and brought the same to tax in the hands of the assessee. The assessee has submitted that the transactions did not amount to FIS as no knowledge skilI or experience was made available by the assessee to the Indian companies for which the payment was received. In this connection, the assessee hers placed reliance upon various decision of the Hon'ble ITAT which has explained the scope of FIS under Article 1 2 of the Indo USA DTAA. Directions of DRP: 8. ldentical issue arose in assessee's own case for last year. Respectfully following the decision of DRP dated 08.12.2014 for A.Y.2011-12the AO is directed not to tax the impugned sum as FIS.

11. As a result, appeal filed by the Revenue is partly allowed. Order pronounced in the court on this_25th day of November, 2016.