bsr & co. recent developments and case studies on international taxation hitesh gajaria –...

BSR & Co.

Recent Developments And Case Recent Developments And Case Studies On International TaxationStudies On International Taxation

Hitesh Gajaria – Chartered AccountantHitesh Gajaria – Chartered Accountant

13 January 2007

Tax

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BSR & CO.

Case Study 1

Employee Secondment

Case Study 1

Employee Secondment

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Employee Secondment - Facts Employee Secondment - Facts

Smartpeople USA, is engaged in the business of providing software Smartpeople USA, is engaged in the business of providing software development assistance to companies around the world. development assistance to companies around the world.

Smartpeople USA has three subsidiaries, Smartpeople, India, Smartpeople, Smartpeople USA has three subsidiaries, Smartpeople, India, Smartpeople, Austria and Smartpeople, Finland. Austria and Smartpeople, Finland.

Smartpeople, India Smartpeople, India inter alia inter alia develops the e-mail system to be used develops the e-mail system to be used globally by the Smartpeople group. globally by the Smartpeople group.

Software transferred to the parent and other group companies at an arms Software transferred to the parent and other group companies at an arms length price and the same software also sold to other customers after length price and the same software also sold to other customers after modifying it to meet their requirements. modifying it to meet their requirements.

Subsidiaries responsible for getting and developing their own business Subsidiaries responsible for getting and developing their own business worldwide. worldwide.

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Smartpeople India entered into contract with AllSolutions Inc. USA to use Smartpeople India entered into contract with AllSolutions Inc. USA to use their software package to develop the company’s global e-mail systems.their software package to develop the company’s global e-mail systems.

Monthly royalty of USD 200,000 payable to AllSolutions Inc. USA. Monthly royalty of USD 200,000 payable to AllSolutions Inc. USA.

For business reasons training on any new system to be implemented and For business reasons training on any new system to be implemented and manpower planning was handled by the Finland company. The Finland manpower planning was handled by the Finland company. The Finland company bears a part of the employee cost.company bears a part of the employee cost.

The Finland company sources people from different subsidiaries and The Finland company sources people from different subsidiaries and sends them for training on the software to AllSolutions Inc. Smartpeople sends them for training on the software to AllSolutions Inc. Smartpeople Finland sent 5 dedicated people to AllSolutions USA to learn the Finland sent 5 dedicated people to AllSolutions USA to learn the software for three months. software for three months.

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Of these five, two were employees of the Indian subsidiary and three Of these five, two were employees of the Indian subsidiary and three were of the Austrian Subsidiary. were of the Austrian Subsidiary.

These employees were transferred on the payroll of the Finland company These employees were transferred on the payroll of the Finland company for a period of two years being the estimated time for the Indian company for a period of two years being the estimated time for the Indian company to develop the e-mail system. to develop the e-mail system.

Smartpeople Finland then entered into a Secondment Agreement with Smartpeople Finland then entered into a Secondment Agreement with Smartpeople India whereby it agreed to second these five employees to Smartpeople India whereby it agreed to second these five employees to the Indian company to train the Indian company in the use of the the Indian company to train the Indian company in the use of the

software.software.

The salary of the Indian employees were partly paid by the Indian The salary of the Indian employees were partly paid by the Indian company and partly by the Finnish company. company and partly by the Finnish company.

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The Finish company was reimbursed on a cost to cost basis for the The Finish company was reimbursed on a cost to cost basis for the salary cost borne by it. salary cost borne by it.

Part of the salary of the Austrian employees was also reimbursed by the Part of the salary of the Austrian employees was also reimbursed by the Indian company to the Finland company as they were considered to be Indian company to the Finland company as they were considered to be seconded to India from the time the training commenced.seconded to India from the time the training commenced.

USA company seconded two employees to acquaint the Indian USA company seconded two employees to acquaint the Indian subsidiary with the global standards and requirements of service. subsidiary with the global standards and requirements of service.

Employees remained on the payroll of the US company. Salary partly Employees remained on the payroll of the US company. Salary partly

paid in India and partly abroad.paid in India and partly abroad.

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Employee Secondment - FactsEmployee Secondment - Facts

US company compensated all direct and indirect cost for secondment. US company compensated all direct and indirect cost for secondment. No separate secondment fee charged. No separate secondment fee charged.

Employees work under supervision of Indian company but report and are Employees work under supervision of Indian company but report and are appraised by the US company. appraised by the US company.

On completion of secondment employees go back to US company. On completion of secondment employees go back to US company.

US company had a right to replace any employee.US company had a right to replace any employee.

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Employee Secondment – Tax Position for Smartpeople India Employee Secondment – Tax Position for Smartpeople India

Activity By the taxpayer in the Return

By the AO in the Assessment Order

a) On royalty payments to AllSolutions Inc.

Not Taxable as payment for right to use the copyrighted software and not for the copyright itself.

Taxable at the rate of 15 percent on a gross basis as Royalty under Article 12 of India-US Tax Treaty. Further, not allowed as a deduction as tax was not deducted at source.

b) Reimbursements of the Salary of the Indian and Austrian employees seconded to the Finland company

Pure reimbursement of salary cost borne by the Finland company therefore no tax has to be deducted on payments made to the Finland company. As regards the Indian employees, tax had been deducted and deposited on the entire salary.

The control over the employees had been given over to the Finland company which had in turn ‘made available’ the services of these employees to the Indian company. Therefore, tax ought to have been deducted at the rate of 15% as ‘Fees for Technical Services’ (FTS) under the India-Finland Treaty.

c) Reimbursement of salary cost to the US Company.

Pure reimbursement of salary cost therefore no tax has to be deducted on payments made to the US company. In any event tax had been deducted and deposited on the entire salary.

The US company had a “Service PE’ in India through its employees seconded. Applying the ‘force of attraction’ rule all income of the US company would be taxable in India.

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Employee Secondment – Issues Employee Secondment – Issues

Is Smartpeople India correct in its stand that the royalty paid to Is Smartpeople India correct in its stand that the royalty paid to AllSolutions Inc USA is not taxable in India?AllSolutions Inc USA is not taxable in India?

Is the AO correct in holding that the reimbursement of salary to the Is the AO correct in holding that the reimbursement of salary to the Finland company constitutes FTS?Finland company constitutes FTS?

Is the AO correct in holding that the employees of the US company Is the AO correct in holding that the employees of the US company constitute a ‘Service PE’ in India within the meaning of Article 5(2)(l) of constitute a ‘Service PE’ in India within the meaning of Article 5(2)(l) of the India-US Tax Treaty?the India-US Tax Treaty?

Is the AO justified in applying the ‘force of attraction’ rule to bring the Is the AO justified in applying the ‘force of attraction’ rule to bring the whole of the income of the US company to tax?whole of the income of the US company to tax?

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Employee Secondment – Reference Material Employee Secondment – Reference Material

India-US Tax Treaty India-US Tax Treaty

India-Finland TreatyIndia-Finland Treaty

Ruling of the AAR in the case ofRuling of the AAR in the case of AT&S India Pvt. Ltd. In Re. [2006] 287 AT&S India Pvt. Ltd. In Re. [2006] 287 ITR 421 ( AAR) ITR 421 ( AAR)

Ruling of the AAR in the case of Ruling of the AAR in the case of Morgan Stanley and Co. In Re.[2006] Morgan Stanley and Co. In Re.[2006] 284 ITR 260 (AAR)284 ITR 260 (AAR)

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BSR & CO.

Case Study 2

Hospitality Industry

Case Study 2

Hospitality Industry

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Hospitality Industry - FactsHospitality Industry - Facts

Comfort Chain Singapore (Comfort) manages hotels across the globe. Comfort Chain Singapore (Comfort) manages hotels across the globe.

It entered into an agreement with Wellbeing Hotels India (WHI), a popular hotel It entered into an agreement with Wellbeing Hotels India (WHI), a popular hotel chain in India.chain in India.

As per the agreement the main objective of the association was to develop As per the agreement the main objective of the association was to develop Indian tourism and give international level service to tourists. Indian tourism and give international level service to tourists.

The said objective was to be achieved by promoting and advertising worldwide The said objective was to be achieved by promoting and advertising worldwide the Comfort brand for the mutual benefit of both. the Comfort brand for the mutual benefit of both.

Comfort was to provide the following services to WHIComfort was to provide the following services to WHI

Management ServicesManagement Services

Right to use proprietary information such as food and beverage recipesRight to use proprietary information such as food and beverage recipes

Brand Promotion and Management Brand Promotion and Management

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Hospitality Industry - FactsHospitality Industry - Facts

WHI also has a separate agreement with Comfort USA to use the global WHI also has a separate agreement with Comfort USA to use the global reservation system.reservation system.

WHI would pose a query to the server located in USA for availability of WHI would pose a query to the server located in USA for availability of rooms globally based on which it could offer rooms abroad to its Indian rooms globally based on which it could offer rooms abroad to its Indian customers on request.customers on request.

WHI would also use the system to process and obtain data reports on WHI would also use the system to process and obtain data reports on trends in the hotel industry and projection of occupancy ratios.trends in the hotel industry and projection of occupancy ratios.

WHI has to pay Comfort USA a fixed licensing fee and a variable WHI has to pay Comfort USA a fixed licensing fee and a variable component based on number of data reports obtained. component based on number of data reports obtained.

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Hospitality Industry – Issues Hospitality Industry – Issues

WHI approached the AO for a Nil WHI approached the AO for a Nil withholding tax certificate on the withholding tax certificate on the payments to be made to Comfort payments to be made to Comfort Singapore following grounds:Singapore following grounds:

The payments were being made under The payments were being made under a composite agreement. a composite agreement.

The services were being provided to The services were being provided to achieve the main objective i.e. to achieve the main objective i.e. to promote hotel business to mutual promote hotel business to mutual interest of both and were thus ancillary interest of both and were thus ancillary and auxiliary to the main objectiveand auxiliary to the main objective

Thus amounts received were in the Thus amounts received were in the nature of business income not taxable nature of business income not taxable in the absence of a PE in the absence of a PE

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WHI approached the AO for a Nil WHI approached the AO for a Nil withholding tax certificate on the withholding tax certificate on the payments to be made to Comfort USA payments to be made to Comfort USA following grounds:following grounds:

The payments were in the nature of The payments were in the nature of business income not taxable in the business income not taxable in the absence of a PE absence of a PE

The payments were not royalty under The payments were not royalty under the Tax Treaty with US as the the Tax Treaty with US as the company did not have any physical company did not have any physical access to the mainframe computer.access to the mainframe computer.

The company had not received the The company had not received the right to use any intellectual property right to use any intellectual property

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Stand taken by the AO in respect of the payments to be made to Stand taken by the AO in respect of the payments to be made to Comfort SingaporeComfort Singapore

Management Services – Fees for Technical Services (FTS) as skill and Management Services – Fees for Technical Services (FTS) as skill and know-how has been ‘made available to the Indian company. know-how has been ‘made available to the Indian company.

Right to use proprietary information – Royalty as payment is for a Right to use proprietary information – Royalty as payment is for a right to use the proprietary information.right to use the proprietary information.

Brand Promotion and Management – FTS as services rendered are in Brand Promotion and Management – FTS as services rendered are in nature of ‘managerial and consultancy services’.nature of ‘managerial and consultancy services’.

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Stand taken by the AO in respect of the payments to be made to Stand taken by the AO in respect of the payments to be made to Comfort USAComfort USA

The payments were “Royalty” under the Act and the Tax Treaty as The payments were “Royalty” under the Act and the Tax Treaty as they were for the right to use the specialised software and use of they were for the right to use the specialised software and use of scientific equipment scientific equipment

The fixed and variable payments were royalty under the Tax Treaty as The fixed and variable payments were royalty under the Tax Treaty as it was for the use of the mainframe computer.it was for the use of the mainframe computer.

Tax was deductible at the Treaty rate under “Royalty”Tax was deductible at the Treaty rate under “Royalty”

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Is WHI correct in the stand taken before the AO in respect of payments Is WHI correct in the stand taken before the AO in respect of payments made to Comfort Singapore?made to Comfort Singapore?

Is WHI correct in the stand taken before the AO in respect of payments Is WHI correct in the stand taken before the AO in respect of payments made to Comfort USA? made to Comfort USA?

What is your advice to WHI on the line of argument to be taken before What is your advice to WHI on the line of argument to be taken before the AO?the AO?

What is your advice to WHI on the issue of deduction of tax at source What is your advice to WHI on the issue of deduction of tax at source on the aforesaid payments? on the aforesaid payments?

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Hospitality Industry – Reference Material Hospitality Industry – Reference Material

India-US Tax Treaty India-US Tax Treaty

India-Singapore TreatyIndia-Singapore Treaty

Decision of the Mumbai Tribunal in the case of Decision of the Mumbai Tribunal in the case of Sheraton International Sheraton International Inc. v. DDIT [2006] 10 SOT 542 (Del)Inc. v. DDIT [2006] 10 SOT 542 (Del)

Ruling of the AAR in the case ofRuling of the AAR in the case of International Hotel Licensing Company International Hotel Licensing Company S.A.R.L. In Re. AAR No. 674 of 2005 S.A.R.L. In Re. AAR No. 674 of 2005

Ruling of the AAR in the case ofRuling of the AAR in the case of IMT Labs (India) Pvt. Ltd. [2006] 287 IMT Labs (India) Pvt. Ltd. [2006] 287 ITR 450 (AAR) ITR 450 (AAR)

Decision of the Mumbai Tribunal in the case of Decision of the Mumbai Tribunal in the case of Kotak Mahindra Primus Kotak Mahindra Primus Limited v. DDIT [2006] 105 TTJ 578 (Mum)Limited v. DDIT [2006] 105 TTJ 578 (Mum)

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