DIRECTOR OF INCOME TAX-II (INTERNATIONAL TAXATION) NEW DELHI & ANR. versus M/S. SAMSUNG HEAVY INDUSTRIES CO. LTD. on 22 July 2020

486

SUPREME COURT REPORTS

[2020] 6 S.C.R.

ADIRECTOR OF INCOME TAX-II (INTERNATIONALTAXATION) NEW DELHI & ANR.

v.

M/S. SAMSUNG HEAVY INDUSTRIES CO. LTD.

B(Civil Appeal No. 12183 of 2016)

JULY 22, 2020

[R. F. NARIMAN, NAVIN SINHA AND B. R. GAVAI, JJ.]

Tax/Taxation – India-Korea Agreement for avoidance ofdouble taxation of income and the prevention of fiscal evasionC(DTAA) – Arts.5, 7 – Project Office whether a PermanentEstablishment (PE) in India – Taxability of income – ONGC awardedturnkey contract to a consortium comprising of respondent-assessee,incorporated in South Korea for carrying out work w.r.t the VasaiEast Development Project – Assessee set up a Project Office inDMumbai – For the relevant assessment year, assessee’s return ofincome showed nil profit alleging loss w.r.t activities carried out inIndia – Assessment Order attributed 25% of the revenues allegedlyearned outside India as the income of assessee exigible to tax –ITAT though set aside this finding, but remitted the matter to ascertainprofits attributable to the Mumbai project office – Appeal filed byEassessee, allowed by High Court – Held: For applicability ofArt.5(1), DTAA to fixed place PEs under double taxation avoidancetreaties, it should be an establishment “through which the businessof an enterprise” is wholly or partly carried on – Profits of theforeign enterprise are taxable only where it carries on its coreFbusiness through a PE – It is only so much of its profits that may betaxed in the other State as is attributable to that PE – In the presentcase, no PE was set up within the meaning of Art.5(1), DTAA, as theMumbai Project Office cannot be said to be a fixed place of businessthrough which the core business of the assessee was wholly or partlycarried on – Said Office would fall within Art.5(4)(e), DTAA, as itGwas solely an auxiliary office, meant to act as a liaison officebetween the assessee and ONGC.

Tax/Taxation – Double taxation avoidance treaty – ProjectOffice whether a Permanent Establishment (PE) in India – Onus toprove – Held: Finding of ITAT thatas accounts are in the hands ofH

assessee, the mere mode of maintaining accounts alone cannotdetermine the character of permanent establishment, is perverseand hence set aside – Equally, the finding that the onus is on assesseeand not on the tax authorities to first show that the project office atMumbai is a PE is in the teeth of the judgment in Asst. Director ofIncome Tax, New Delhi v. E-Funds IT Solution Inc. reported as [2017]10 SCR 157.

Dismissing the appeal, the Court

Held: 1.1 When it comes to “fixed place” permanentestablishments under double taxation avoidance treaties, thecondition precedent for applicability of Article 5(1) of the doubletaxation treaty and the ascertainment of a “permanentestablishment” is that it should be an establishment “throughwhich the business of an enterprise” is wholly or partly carriedon. Further, the profits of the foreign enterprise are taxable onlywhere the said enterprise carries on its core business through apermanent establishment. The maintenance of a fixed place ofbusiness which is of a preparatory or auxiliary character in thetrade or business of the enterprise would not be considered tobe a permanent establishment under Article 5. Also, it is only somuch of the profits of the enterprise that may be taxed in theother State as is attributable to that permanent establishment.[Para 23]

1.2 A reading of the Board Resolution would show that theProject Office was established to coordinate and execute “deliverydocuments in connection with construction of offshore platformmodification of existing facilities for ONGC”. The ITAT reliedupon only the first paragraph of the Board Resolution, and thenjumped to the conclusion that the Mumbai office was forcoordination and execution of the project itself. The finding,therefore, that the Mumbai office was not a mere liaison office,but was involved in the core activity of execution of the projectitself is clearly perverse. Equally, when it was pointed out thatthe accounts of the Mumbai office showed that no expenditurerelating to the execution of the contract was incurred, the ITATrejected the argument, stating that as accounts are in the handsof the Assessee, the mere mode of maintaining accounts alonecannot determine the character of permanent establishment. This AB

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Ais another perverse finding which is set aside. Equally the findingthat the onus is on the Assessee and not on the Tax Authoritiesto first show that the project office at Mumbai is a permanentestablishment is again in the teeth of the judgment in E-FundsIT Solution Inc. Though it was pointed out to the ITAT that therewere only two persons working in the Mumbai office, neither ofBwhom was qualified to perform any core activity of the Assessee,the ITAT chose to ignore the same. Therefore, no permanentestablishment has been set up within the meaning of Article 5(1)of the DTAA, as the Mumbai Project Office cannot be said to bea fixed place of business through which the core business of theCAssessee was wholly or partly carried on. Also, the MumbaiProject Office, on the facts of the present case, would fall withinArticle 5(4)(e) of the DTAA, inasmuch as the office is solely anauxiliary office, meant to act as a liaison office between theAssessee and ONGC. [Paras 27, 28]

DCommissioner of Income Tax and Another v. HyundaiHeavy Industries Co. Ltd., (2007) 7 SCC 422 : [2007]7 SCR 288 ; M/s DIT (International Taxation), Mumbaiv. M/s Morgan Stanley & Co. Inc. (2007) 7 SCC 1 :[2007] 8 SCR 52 ; Asst. Director of Income Tax, NewDelhi v. E-Funds IT Solution Inc. (2018) 13 SCC 294 :E[2017] 10 SCR 157 ; Ishikawajma-Harima HeavyIndustries Ltd. v. Director of Income Tax, Mumbai,(2007) 3 SCC 481: [2007] 1 SCR 112 – relied on.

GFrom the Judgment and Order dated 27.12.2013 of the High Courtof at Uttarakhand at Nainital in ITA No. 01 of 2012.

N. Venkataraman, ASG, S. A. Haseeb, Shekhar Vyas, Mrs. AnilKatiyar, Advs. for the Appellants.

S. Ganesh, Sr. Adv., Bhargava V. Desai, Ms. Aditi Diwan, Advs.Hfor the Respondent.

The Judgment of the Court was delivered by

R. F. NARIMAN, J.

1. This appeal by the Department revisits the question as to thetaxability of income attributable to a “permanent establishment” set upin a fixed place in India, arising from the ‘Agreement for avoidance ofdouble taxation of income and the prevention of fiscal evasion’ with theRepublic of Korea (“DTAA”).

2. On 28.02.2006, the Oil and Natural Gas Company (“ONGC”)awarded a “turnkey” contract to a consortium comprising oftheRespondent/Assessee,i.e. Samsung Heavy Industries Co. Ltd. (aCompany incorporated in South Korea), and Larsen & Toubro Limited,being a contract for carrying out the “Work”, inter alia,of surveys, design,engineering,procurement, fabrication, installation and modification atexisting facilities, and start-up and commissioning of entire facilitiescovered under the ‘Vasai East Development Project’ (“Project”).

3. On 24.05.2006, the Assessee set up a Project Office in Mumbai,India, which, as per the Assessee, was to act as “a communicationchannel” between the Assessee and ONGC in respect of the Project.Pre-engineering, survey, engineering, procurement and fabricationactivities which took place abroad, all took place in the year 2006.Commencing from November, 2007, these platforms were then broughtoutside Mumbai to be installed at the Vasai East Development Project.The Project was to be completed by 26.07.2009.

4. With regard to Assessment Year 2007-2008, the Assessee fileda Return of Income on 21.08.2007 showing nil profit, as a loss of INR23.5 lacs had allegedly been incurred in relation to the activities carriedout by it in India.

5. On 29.08.2008, a show-cause notice was issued to the Assesseeby the Income Tax authorities requiring it to show cause as to why theReturn of Incomehad been filed only at nil, which was replied to in detailby the Assessee on 02.02.2009. Being dissatisfied with the reply, a draftAssessment Order was then passed on 31.12.2009 (“Draft Order”) bythe Assistant Director of Income Tax International Transactions atDehradun (“Assessing Officer”).This Draft Order went into the termsof the agreement in great detail, and concluded that the Project in questionis a single indivisible “turnkey” project, whereby ONGC was to takeover a project that is completed only in India. Resultantly,profits arising A

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Afrom the successful commissioning of the Project would also arise onlyin India. This Court’s judgment in Commissioner of Income Tax andAnother v. Hyundai Heavy Industries Co. Ltd., (2007) 7 SCC 422,was distinguished by the learned Assessing Officer stating that, in thatcase, the project was in two separate parts, unlike the Project in thepresent case. Referring then to the Mumbai Project Office, the AssessingBOfficer held:

“It is evident from the above that the work relating to fabricationand procurement of material was very much a part of the contractfor execution of work assigned by ONGC. The work was whollyexecuted by PE in India and it would be absurd to suggest that PECin India was not associated with the designing or fabrication ofmaterials.”

6. Having so held, the Draft Order then went on to attribute 25%

of the revenues allegedly earned outside India (which totalled INR113,43,78,960) as being the income of the Assessee exigible to tax, whichDcame to INR 28,35,94,740. The Dispute Resolution Panel, by its orderdated 30.9.2010, after considering objections to the Draft Order by theAssessee, then held:

“The Assessing Officer has given a specific finding that theassessee had a project office in India, when it was given theEcontract. The assessee has not contested the existence of theProject office in India but it has only contested that the projectwas used merely for preparatory and auxiliary activities.Thissubmission of the assessee does not hold merit because if it wantedto perform only preparatory and auxiliary activities then it couldFhave opened a liaison office. The opening of a project office clearlyshows that the assessee was doing something more than whatwould have been done through liaison office. In any case natureand purport of activities undertaken in India determine the existenceof PE. Considering the nature of activities undertaken in India it isclear that PE existed in the case of assessee.”G

7. It then confirmed the finding contained in the Draft Order thatthe agreement was a “turnkey” project which could not be split up, as aresult of which the entire profit earned from the Project would be earnedwithin India. Basing itself on data obtained from the database “CapitalLine”,the Panel picked up four similar projects executed by companiesH

outside India, and found the average profit margin to be 24.7%, which,according to the Panel, would therefore justify the figure of 25% arrivedat in the Draft Order. The Panel having dismissed theAssessee’sobjections, the Draft Order was made finalby the Assessing Officer on25.10.2010.The Assessee then filed an appeal against the AssessmentOrder before the Income Tax Appellate Tribunal (“ITAT”).

8. The decision of the ITAT on 30.08.2011 went into theestablishment of the Project Office at Mumbai in much more detail thanhad been gone into either in the Draft Order or the Dispute ResolutionPanel’s decision. The ITAT referred to and relied upon an applicationdated 24.04.2006, which had been submitted by the Assessee to theReserve Bank of India (“RBI”) for opening the Project Office, whichin turn referred to a Board Resolution of the Company dated 03.04.2006for opening theProject Office in India. It further referred tocorrespondence showing that one Mr. Sangsoon Park, the GeneralManager of the Assessee Company,had been appointed as arepresentative of the Company to sign documents for opening oftheProject Office and a bank account in India, and to look after operationsof the Project Office. After setting out the Board Resolution dated03.04.2006 in detail, the ITAT concluded:

“70. It can be seen from all the above documents that the scopeof Mumbai Project Office has neither been restricted by theassessee company itself or it has also not been restricted by RBIin any terms. This is relevant for the reason that in Hyundai HeavyIndustries case, it is a matter of record that project office openedby the said assessee, according to permission given by the RBI,was to work only as a liaison office and was not authorised tocarry on any business activity. This is the vital difference betweenthe two cases namely the case of the assessee and Hyundai HeavyIndustries case.

71. There is a force in the contention of the ld. DR that the words“That the company hereby open one project office in Mumbai,India for coordination and execution of Vasai East DevelopmentProject for Oil and Natural Gas Corporation (“ONGC”), India”used by the assessee company in its resolution of Board ofDirectors meeting dated 3[rd] April, 2006 makes it amply clear thatproject office was opened for coordination and execution ofimpugned project. In absence of any restriction put by the assessee AB

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Ain the application moved by it to RBI, in the resolutions passed bythe assessee company for the opening of the project office atMumbai and the permission given by RBI, it cannot be said thatMumbai project office was not a fixed place of business of theassessee in India to carry out wholly or partly the impugnedcontract in India within the meaning of Article 5.1 of DTAA.BThese documents make it clear that all the activities to be carriedout in respect of impugned contract will be routed through theproject office only. Pre-surveys were to be first conducted whichwill determine the nature of the designing on the basis of whichpre-engineering and pre-designing was to be done with respect toCthe entire project. The next main condition of the contract wasthat, as a condition precedent, the assessee had to obtain insurancewith respect to the entire project which has been in fact obtainedby the assessee in India for which the assessee has receivedmajor payment during the year under consideration itself. Thesaid policy has not been shown to be restricted only with regardDto activities of the assessee outside India.”

9. The ITAT thus confirmed the decisions of the Assessing Officerand the Dispute Resolution Panel that the contract was indivisible. Itthen went on to deal with the argument on behalf of the Assessee thatthe Project Office was only an auxiliary office, and did not involve itselfEin any core activity of business, as accounts that were produced wouldshow that there was no expenditure which related to execution of theproject. This argument was disposed of as follows:

“The way the terms of the contract are described and the waythe work on contract has to proceed clearly describe that in allFthe activities of contract there will be the role of Mumbai projectoffice as the same has to work as a channel between assesseecompany and ONGC. If PE of the assessee exists within themeaning of Article 5.1 and 5.2 and assessee claims that despitethere being PE in terms of clause 5.1 and 5.2, it falls underGexclusionary Article 5.4 then onus is on assessee to prove thatactivities of its PE are in the nature of preparatory or auxiliary innature. No material has been brought on record by the assesseeto prove the said fact. The arguments put forward in this respectare only by inference such as the accounts maintained by theassessee in India through which it is the argument of the ld. CounselH

of the assessee that it does not contain any expenditure relating toexecution of the contract. But such argument is not acceptable asthe maintenance of account is in the hands of assessee and merethe mode of maintaining the accounts alone cannot determine thecharacter of PE as the role of PE only will be relevant to determinewhat kind of activities it has carried on. As pointed out earlier theway the contract has to proceed, Mumbai project office of theassessee has to play a vital role in the execution of entire contractand ifassessee wants to contend otherwise, the onus is on assesseeand not on the revenue.”

10. Having so held, the ITAT found that there was a lack of materialto ascertain as to what extent activities of the business were carried onby the Assessee through the Mumbai Project Office, and therefore itwas considered just and proper to set aside the attribution of 25% ofgross revenue earned outside India – which was attributed as incomeearned from the Mumbai project office – the matter being sent back tothe Assessing Officer to ascertain profits attributable to the Mumbaiproject office after examining the necessary facts.An appeal from theITAT was filed in the High Court at Uttarakhand by the Assessee. Fivesubstantial questions of law were framed by the High Court in the appealas follows:

“(i) Whether, on the facts and in the circumstances of the case,the Tribunal erred in law in holding that the appellant had a fixedplace ‘Permanent Establishment’ (PE) in India under Article 5(1)/(2) of the Double Taxation Avoidance Agreement between Indiaand Korea (‘the Treaty’), in the form of project office in Mumbai?

(ii) Whether, on the facts and circumstances of the case and inlaw, the finding of the Tribunal that the project office was openedfor co-ordination and execution of the VED project and all activitiesto be carried out in relation to the said project were routed throughthe project office only, is perverse inasmuch as the same is basedon selective and/or incomplete reference to the material on record,irrelevant considerations and incorrect appreciation of the role ofthe project office?

(iii) Without prejudice, whether, on the facts and the circumstancesof the case and in law, the Tribunal erred in not holding that evenif the appellant had fixed place PE in India, no income on account AB

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Aof offshore activities, i.e. the operations carried out outside India(viz., designing, engineering, material procurement, fabrication,transportation activities) was attributable to the said PE, instead,in setting the issue to the file of the assessing officer?

(iv) Without prejudice, whether, on the facts and circumstancesBof the case and in law, the Tribunal erred in not holding that evenif the appellant had fixed place PE in India, no income could bebrought to tax in India since the appellant had incurred overalllosses in respect of the VED project?

(v) Whether, on the facts and circumstances of the case, theCcontract was divisible/distinguishable pertaining to the activitiesassociated with designing, fabrication and installation of platformsand, if so, whether the activities pertaining to designing andfabrication took place in any part of India?”

11. By the impugned judgment dated 27.12.2013, the High CourtDfound that the order of the Assessing Officer had been confirmed by theITAT, and concerned itself only with the following question:

“In other words, can it be said that the Agreement permitted theIndia Taxing Authority to arbitrarily fix a part of the revenue tothe permanent establishment of the appellant in India?”

E12. The High Court held that the question as to whether the ProjectOffice opened at Mumbai cannot be said to be a “permanentestablishment” within the meaning of Article 5 of the DTAA would beof no consequence. The High Court then held that there was no findingthat 25% of the gross revenue of the Assessee outside India wasattributable to the business carried out by the Project Office of theFAssessee. According to the High Court,neither the Assessing Officernor the ITAT made any effort to bring on record any evidence to justifythis figure. This being the position, the appeal of the Assessee was allowedin the following terms:

“10. That being the situation we allow the appeal, set aside theGjudgment and order under appeal as well as the assessment orderinsofar as the same relates to imposition of tax liability on the25% of the receipt upon the appellant in the circumstancesmentioned above, and observe that the questions of law formulatedby us, while admitting the appeal, have not, in fact, arisen on theHfacts and circumstances of the case, but the real question was, whether the tax liability could be fastened without establishingthat the same is attributable to the tax identity or permanentestablishment of the enterprise situate in India and the same, wethink, is answered in the negative and in favour of the appellant.”

13. Shri N. Venkataraman, learned Additional Solicitor Generalappearing for the Appellants, has read to us in copious detail the DraftOrder, the Dispute Resolution Panel Order, the ITAT judgment and theimpugned High Court judgment. He argued that the facts of the presentcase would show, as was correctly held by all the authorities and theTribunal, that the Project, being a “turnkey” project, was one andindivisible, and the entire revenue earned would therefore be taxable inIndia. He said that the judgment in Hyundai Heavy Industries Co.Ltd. (supra) was correctly distinguished by the authorities, as that wasa case where a turnkey project was in fact bifurcated into two parts,namely, a separate agreement as to design, manufacture, erection etc.culminating in another separate agreement relating to installation.On thefacts of that case it was found that the permanent establishment was setup only at the stage of installation, i.e.long after the revenue had beenearned from manufacture, design etc., and it was for that reason that itcould not be brought to tax.He also sought to distinguish the judgment inM/s DIT (International Taxation), Mumbai v. M/s Morgan Stanley& Co. Inc., (2007) 7 SCC 1, and relied upon certain passages in arecent judgment reported asAsst. Director of Income Tax, New Delhiv. E-Funds IT Solution Inc. (2018) 13 SCC 294. He argued that theHigh Court judgment was cryptic and did not address any of the realissues that arose on the facts of this case. He further argued that it wascompletely incorrect to state that there was no finding that 25% of thegross revenue of the Assessee was attributable to the business carriedout by the Project Office of the Assessee. On the contrary, he referredto all the documents that ITAT had looked at to show that the ProjectOffice at Mumbai was not a mere liaison office, but was vitally connectedwith the core business of the Assessee and that therefore, in the absenceof figures given by the Assessee, a “best-judgment” assessment had tobe made of profits attributable to such permanent establishment. Thatbest-judgment assessment, though made in the Draft Order and theDispute Resolution Panel Order, has been set aside by ITAT, resulting ina remand to the Assessing Officer. There was nothing wrong, therefore,with the ITAT judgment, which should not have been interfered with by A

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Athe High Court without answering a single substantial question of lawraised before it.

14. Shri S. Ganesh, learned Senior Advocate appearing on behalfof the Respondent/Assessee, relied heavily upon Articles 5 and 7 of theDTAA, and argued that the Project Office in Mumbai consisted of onlyBtwo employees, neither of whom had any technical qualificationwhatsoever. Secondly, the accounts that were produced would showthat the Project Office had not incurred any expenditure on execution ofthe project. He read to us in copious detail the documents relied upon bythe ITAT, and argued that the ITAT had come to a perverse finding thatthe Project Office had been set up not merely as a liaison office but asCan office through which core activities of the Assessee were carriedout. He further argued, that in any case, the burden of establishing thata foreign Assessee has a permanent establishment in India is on thetaxauthorities, which burden had not been discharged on the facts of thepresent case. He then relied heavily on Hyundai Heavy IndustriesDCo. Ltd. (supra) to state that the facts in the present case were similarto the facts in that case, which would therefore apply on all fours to thiscase. He then arguedthat even assuming that there is a permanentestablishment in India through which the core business activity of theAssessee was carried out, no taxable income can be attributed to it, asaudited accounts that were produced showed that the project did notEyield any profit, but in fact resulted in only losses.

15. Having heard learned counsel for both parties, it is importantto first set out the relevant provisions of the DTAA. The relevantprovisions of Article 5 of the aforesaid treaty reads as follows:“ARTICLE 5 - Permanent establishment –F

1. For the purposes of this Convention, the term “permanentestablishment” means a fixed place of business through whichthe business of an enterprise is wholly or partly carried on.

2. The term “permanent establishment” shall include especially—G(a) a place of management; (b) a branch; (c) an office; (d) afactory; (e) a workshop; and (f) a mine, an oil or gas well, aquarry or any other place of extraction of natural resources.

3. The term “permanent establishment” likewise encompasses abuilding site, a construction, assembly or installation project or H

supervisory activities in connection therewith, but only where suchsite, project or activities continue for a period of more than ninemonths.

4. Notwithstanding the preceding provisions of this article, theterm “permanent establishment” shall be deemed not to include—

(a) the use of facilities solely for the purpose of storage, displayor delivery of goods or merchandise belonging to the enterprise; (b) the maintenance of a stock of goods or merchandise belongingto the enterprise solely for the purpose of storage, display ordelivery;

(c) the maintenance of a stock of goods or merchandise belongingto the enterprise solely for the purpose of processing by anotherenterprise; (d) the maintenance of a fixed place of business solely for thepurpose of purchasing goods or merchandise or for collectinginformation, for the enterprise; (e) the maintenance of a fixed place of business solely for thepurpose of advertising, the supply of information, scientificresearch or any other activity, if it has a preparatory or auxiliarycharacter in the trade or business of the enterprise; (f) the maintenance of a fixed place if business solely for anycombination of activities mentioned in sub-paragraphs (a) to (e)of this paragraph, provided that the overall activity of the fixedplace of business resulting from this combination is of apreparatory or auxiliary character.

16. Article 7(1) and 7(2) of the DTAA, which are also of somesignificance, readas follows:

“ARTICLE 7 - Business profits –

1. The profits of an enterprise of a Contracting State shall betaxable only in that State unless the enterprise carries on businessin the other Contracting State through a permanent establishmentsituated therein. If the enterprise carries on business as aforesaidthe profits of the enterprise may be taxed in the other State butonly so much of them as is attributable to that permanentestablishment.

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A2. Subject to the provisions of paragraph (3), where an enterpriseof a Contracting State carries on business in the other ContractingState through a permanent establishment situated therein, thereshall in each Contracting State be attributed to that permanentestablishment the profits which it might be expected to make if itwere a distinct and separate enterprise engaged in the same orBsimilar activities under the same or similar conditions and dealingwholly independently with the enterprise of which it is a permanentestablishment.”

17. Some of the judgments of this Court have dealt with similardouble taxation avoidance treaty provisions and therefore need to beCmentioned at this juncture. In Morgan Stanley & Co. Inc. (supra), theDouble Taxation Avoidance Agreement (1990) between India and theUnited States of America was construed. The facts in that case made itclear that the Morgan Stanley Group is one of the world’s largestdiversifying financial services companies. Morgan Stanley and Company,Dwhich is a part of the Morgan Stanley Group, is an investment bankengaged in the business of providing financial advisory services, corporatelending and securities underwriting.One of the group companies ofMorgan Stanley Group, namely, Morgan Stanley Advantages ServicesPvt. Ltd. (“MSAS”) entered into an agreement for providing certainsupport services to Morgan Stanley and Company. MSAS, being anEIndian Company, was set up to support the main office functions in equityand fixed income research, account reconciliation and providing IT enabledservices such as back office operation, data processing and support centreto Morgan Stanley and Company. Tackling the question as to whether a“fixed place” permanent establishment existed on the facts of that caseFunder Article 5 of the India-US treaty – which is similar to Article 5 ofthe present DTAA – this Court held:

“10. In our view, the second requirement of Article 5(1) of DTAAis not satisfied as regards back office functions. We have examinedthe terms of the Agreement along with the advance rulingGapplication made by MSCo inviting AAR to give its ruling. It isclear from reading of the above Agreement/application that MSASin India would be engaged in supporting the front office functionsof MSCo in fixed income and equity research and in providing ITenabled services such as data processing support centre andtechnical services as also reconciliation of accounts. In order toH

decide whether a PE stood constituted one has to undertake whatis called as a functional and factual analysis of each of the activitiesto be undertaken by an establishment. It is from that point ofview, we are in agreement with the ruling of AAR that in thepresent case Article 5(1) is not applicable as the said MSAS wouldbe performing in India only back office operations. Therefore tothe extent of the above back office functions the second part ofArticle 5(1) is not attracted.

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14. There is one more aspect which needs to be discussed, namely,exclusion of PE under Article 5(3). Under Article 5(3)(e) activitieswhich are preparatory or auxiliary in character which are carriedout at a fixed place of business will not constitute a PE. Article5(3) commences with a non obstante clause. It states thatnotwithstanding what is stated in Article 5(1) or under Article5(2) the term PE shall not include maintenance of a fixed place ofbusiness solely for advertisement, scientific research or foractivities which are preparatory or auxiliary in character. In thepresent case we are of the view that the abovementioned backoffice functions proposed to be performed by MSAS in India fallsunder Article 5(3)(e) of DTAA. Therefore, in our view in thepresent case MSAS would not constitute a fixed place PE underArticle 5(1) of DTAA as regards its back office operations.”

18. The Court then went on to hold that activities performed bystewards who were deployed by the American Company to work inIndia as employees of the Indian company were so employed merely toprotect the American companies’ interests in a competitive world, byensuring quality and confidentiality of services performed in India. Itwas therefore found that so far as stewardship was concerned, thisactivity would fall within Article 5(2)(l) of the US-India treaty, andtherefore would be outside the term “permanent establishment” asdefined. On the deputation of certain employees of the AmericanCompany to work as employees of the Indian Company, it was found,however, that the American Company was rendering services throughits employees to the Indian Company, as a result of which a“service”permanent establishment would stand established on this count.

19. The judgment in Hyundai Heavy Industries Co. Ltd.(supra)was heavily relied upon by Shri S. Ganesh and sought to be distinguished AB

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Aby Shri N. Venkataraman.The facts in Hyundai Heavy IndustriesCo. Ltd. (supra) made it clear that the turnkey contract entered intobetween Hyundai Heavy Industries Co. Ltd. and ONGC was divisibleinto two parts, and as a result the Court found:

“16. On reading Article 7 of the CADT, it is clear that the saidBArticle is based on OECD Model Convention. Para (1) of Article7 states the general rule that business profits of an enterprise ofone contracting State may not be taxed by the other contractingState unless the enterprise carries on its business in the othercontracting State through its PE. The said Para (1) further laysdown that only so much of the profits (sic as is) attributable to theCPE is taxable. Para (2) of Article 7 further lays down that theattributable profit can be determined by the apportionment of thetotal profits of the assessee to its various parts OR on the basis ofan assumption that the PE is a distinct and separate enterprisehaving its own profits and distinct from GE.

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17. Applying the above test to the facts of the present case, wefind that profits earned by the Korean GE on supplies of fabricatedplatforms cannot be made attributable to its Indian PE as theinstallation PE came into existence only after the transaction stoodmaterialised. The installation PE came into existence only onEconclusion of the transaction giving rise to the supplies of thefabricated platforms. The installation PE emerged only after thecontract with ONGC stood concluded. It emerged only after thefabricated platform was delivered in Korea to the agents of ONGC.Therefore, the profits on such supplies of fabricated platformscannot be said to be attributable to the PE.

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18. There is one more reason for coming to the aforestatedconclusion. In terms of Para (1) of Article 7, the profits to betaxed in the source country were not the real profits buthypothetical profits which the PE would have earned if it waswholly independent of the GE. Therefore, even if we assume thatGthe supplies were necessary for the purposes of installation(activity of the PE in India) and even if we assume that the supplieswere an integral part, still no part of profits on such supplies canbe attributed to the independent PE unless it is established by theDepartment that the supplies were not at arm’s length price. NoHsuch taxability can arise in the present case as the sales were directly billed to the Indian customer (ONGC). No such taxabilitycan also arise in the present case as there was no allegation madeby the Department that the price at which billing was done for thesupplies included any element for services rendered by the PE.

19. In the light of our above discussion, we are of the view thatthe profits that accrued to the Korean GE for the Korean operationswere not taxable in India.”

20. In Ishikawajma-Harima Heavy Industries Ltd. v. Directorof Income Tax, Mumbai, (2007) 3 SCC 481, this Court went into asimilar double taxation treaty agreement entered into between Japanand India, stating as follows:

“84. The distinction between the existence of a business connectionand the income accruing or arising out of such businessconnection is clear and explicit. In the present case, the permanentestablishment’s non-involvement in this transaction excludes it frombeing a part of the cause of the income itself, and thus there is nobusiness connection.

85. Article 5.3 provides that a person is regarded as having apermanent establishment if he carries on construction andinstallation activities in a contracting State only if the said activitiesare carried out for more than six months. Para 6 of the Protocolto India-Japan Tax Treaty also provides that only income arisingfrom activities wherein the permanent establishment has beeninvolved can be said to be attributable to the permanentestablishment. It gives rise to two questions, firstly, offshoreservices are rendered outside India; the permanent establishmentwould have no role to play in respect thereto in the earning of thesaid income. Secondly, entire services having been renderedoutside India, the income arising therefrom cannot be attributableto the permanent establishment so as to bring within the charge oftax.

86. For attracting the taxing statute there has to be some activitiesthrough permanent establishment. If income arises without anyactivity of the permanent establishment, even under DTAA thetaxation liability in respect of overseas services would not arise inIndia. Section 9 spells out the extent to which the income of non-resident would be liable to tax in India. Section 9 has a direct A

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Aterritorial nexus. Relief under a double taxation treaty having regardto the provisions contained in Section 90(2) of the Income TaxAct would arise only in the event a taxable income of the assesseearises in one contracting State on the basis of accrual of incomein another contracting State on the basis of residence. Thus, if theappellant had income that accrued in India and is liable to taxBbecause in its State all residents (sic) it was entitled to relief fromsuch double taxation payable in terms of Double Taxation Treaty.However, so far as accrual of income in India is concerned,taxability must be read in terms of Section 4(2) read with Section9, whereupon the question of seeking assessment of such incomeCin India on the basis of Double Taxation Treaty would arise.

87. In cases such as this, where different severable parts of thecomposite contract are performed in different places, the principleof apportionment can be applied, to determine which fiscaljurisdiction can tax that particular part of the transaction. Thisprinciple helps determine, where the territorial jurisdiction of aparticular State lies, to determine its capacity to tax an event.Applying it to composite transactions which have some operationsin one territory and some in others, it is essential to determine thetaxability of various operations.

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E88. Therefore, in our opinion, the concepts of profits of businessconnection and permanent establishment should not be mixed up.Whereas business connection is relevant for the purpose ofapplication of Section 9; the concept of permanent establishmentis relevant for assessing the income of a non-resident underDTAA. There, however, may be a case where there can beFoverlapping of income; but we are not concerned with such asituation. The entire transaction having been completed on thehigh seas, the profits on sale did not arise in India, as has beencontended by the appellant. Thus, having been excluded from thescope of taxation under the Act, the application of the DoubleGTaxation Treaty would not arise. The Double Taxation Treaty,however, was taken recourse to by the appellant only by way ofan alternate submission on income from services and not in relationto the tax of offshore supply of goods.”

21. A recent judgment of this Court, namely, E-Funds IT Solution HInc. (supra), concerned itself with the India-US Double Taxation Avoidance Agreement with similar provisions. Dealing with what wasreferred to as a “fixed place”, permanent establishment, this Court held:

“16. The Income Tax Act, in particular Section 90 thereof, doesnot speak of the concept of a PE. This is a creation only of theDTAA. By virtue of Article 7(1) of the DTAA, the business incomeof companies which are incorporated in the US will be taxableonly in the US, unless it is found that they were PEs in India, inwhich event their business income, to the extent to which it isattributable to such PEs, would be taxable in India. Article 5 ofthe DTAA set out hereinabove provides for three distinct types ofPEs with which we are concerned in the present case: fixed placeof business PE under Articles 5(1) and 5(2)(a) to 5(2)(k); servicePE under Article 5(2)(l) and agency PE under Article 5(4). Specificand detailed criteria are set out in the aforesaid provisions in orderto fulfil the conditions of these PEs existing in India. The burdenof proving the fact that a foreign assessee has a PE in India andmust, therefore, suffer tax from the business generated from suchPE is initially on the Revenue. With these prefatory remarks, letus analyse whether the respondents can be brought within any ofthe sub-clauses of Article 5.”

22. Dealing with ‘support services’ rendered by an IndianCompany to American Companies, it was held that the outsourcing ofsuch services to India would not amount to a fixed placepermanentestablishment under Article 5 of the aforesaid treaty, as follows:

“22. This report would show that no part of the main businessand revenue earning activity of the two American companies iscarried on through a fixed business place in India which has beenput at their disposal. It is clear from the above that the Indiancompany only renders support services which enable the assesseesin turn to render services to their clients abroad. This outsourcingof work to India would not give rise to a fixed place PE and theHigh Court judgment is, therefore, correct on this score.”

23. A reading of the aforesaid judgments makes it clear that whenit comes to “fixed place” permanent establishments under double taxationavoidance treaties, the condition precedent for applicability of Article5(1) of the double taxation treaty and the ascertainment of a “permanentestablishment” is that it should be an establishment “through which the A

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Abusiness of an enterprise” is wholly or partly carried on. Further, theprofits of the foreign enterprise are taxable only where the said enterprisecarries on its core business through a permanent establishment. What isequally clear is that the maintenance of a fixed place of business whichis of a preparatory or auxiliary character in the trade or business of theenterprise would not be considered to be a permanent establishmentBunder Article 5. Also, it is only so much of the profits of the enterprisethat may be taxed in the other State as is attributable to that permanentestablishment.

24. At this stage, it is important to go into some of the documentsthat were relied upon by the ITAT. The applicationsubmitted by theCAssessee to the RBI dated 24.04.2006 for opening a project office, readsas follows:

“Letter dated 24[th] April 2006

General ManagerReserve Bank of IndiaDRegional OfficeMumbai Dear sir, Re: M/s Samsung Heavy Industries Co. Ltd. (SHI)EApplication for Registration of Project Office Our aforesaid client (SHI) has entered into contract with M/s Oiland Natural Gas Corporation Ltd. (ONGC) vide contract numberMR/OW/MM/VED/O3/2005. Under the instructions of ourabove-referred client, we have to enclose following documents inconnection with Registration of Project office in India:F

1. Letter dated (…) on the letter head of the company forthe details of the project as Notification FEMA 95/2003-RB dated 2[nd] July, 2003 Foreign Exchange Management(Establishment in India of Branch or Office or other placeof business) (Amendment) Regulations 2003 along withGthe copy of letter from ChoHung Bank for opening Bankaccount.

2. Copy of the POA in our favour and in favour of M/sHemand Arora and Co., CA.

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505M/S. SAMSUNG HEAVY INDUSTRIES CO. LTD. [R. F. NARIMAN, J.]3.Certified copy of the POA in the name of the Mr. S.S.APark, who has signed the application.

4. Certified copy of the certificate of registration of thecompany in South Korea.

5. Certified copy of the notarised Board resolution foropening a Project office in India.

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6. Certified copy of Extract of contract entered into by ourclient.

Kindly take the above documents on record. Please take on recordour client’s Project office and register the same. If you requireany clarification, please let us know…”

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25. The Board Resolution dated 03.04.2006 referred to in thisletter reads as follows:

“MINUTES OF BOARD OF DIRECTORS’ MEETING OFSAMSUNG HEAVY INDUSTRIES CO. LTD.

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A meeting of the Board of Directors of Samsung Heavy IndustriesCo. Ltd. (the “Company”) was duly called and held on the 3[rd] dayof April 2006 at the office of the Company in Seoul the Republicof Korea, at which 3 of 3 Directors were present and actingthroughout.

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Jing Wan Kim, President and CEO of Samsung Heavy IndustriesCo. Ltd. announced that the notice of meeting was duly given toall Directors and a quorum was present and the meeting was dulycalled to order and held.

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RESOLVED:

1. That the Company hereby open one project office inMumbai, India for coordination and execution of Vasai EastDevelopment Project for Oil and Natural Gas CorporationLimited (“ONGC”), India.

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2. That the Company hereby does make and constitute Mr.Sangsoon Park Yard General Manager of the Company, asthe Company’s true and lawful representative with full powerand authority for the purpose of establishing a project officeand coordinating and executing delivery of documents in H

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connection with construction of offshore platformmodification of existing facilities for ONGC above.

IN WITNESS WHEREOF, the President and Directors presentat the meeting have hereunto affixed their names and seals onthis 3[rd] day of April 2006.

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Samsung Heavy Industries Co., Ltd.President and CEO

Jing Wan Kim”

26. Based on the letter given to RBI which contained thisCresolution, the RBI approval dated 24.05.2006 reads as follows:

“FEO, Mumbai CAD/080/04.02.2001/05-06

24[th] May, 2006

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M/s Davesh K. Shah and Co.,Chartered Accountants,106, Banaji House,361, Dr. D.N. Road,Flora Fountain,EMumbai 400 001.

Dear sirs,

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Registration of Project Office – M/s Samsung Heavy IndustriesCo. Ltd. (SHI)

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Please refer to your letter dated 24[th] April, 2006 on the captionedsubject. In this connection, we advise having noted a Project Officein India in terms of provision contained in AP (Dir Series) CircularNo.37 dated 15[th] November 2003.”

27. A reading of the Board Resolution would show that the ProjectOffice was established to coordinate and execute”delivery documentsin connection with construction of offshore platform modification of existing facilities for ONGC”. Unfortunately, the ITAT relied upon onlythe first paragraph of the Board Resolution, and then jumped to theconclusion that the Mumbai office was for coordination and executionof the project itself. The finding, therefore, that the Mumbai office wasnot a mere liaison office, but was involved in the core activity of executionof the project itself is therefore clearly perverse. Equally, when it waspointed out that the accounts of the Mumbai office showed that noexpenditure relating to the execution of the contract was incurred, theITAT rejected the argument, stating that as accounts are in the hands ofthe Assessee, the mere mode of maintaining accounts alone cannotdetermine the character of permanent establishment. This is anotherperverse finding which is set aside. Equally the finding that the onus ison the Assessee and not on the Tax Authorities to first show that theproject office at Mumbai is a permanent establishment is again in theteeth of our judgment in E-Funds IT Solution Inc. (supra).

28. Though it was pointed out to the ITAT that there were onlytwo persons working in the Mumbai office, neither of whom was qualifiedto perform any core activity of the Assessee, the ITAT chose to ignorethe same. This being the case, it is clear, therefore, that no permanentestablishment has been set up within the meaning of Article 5(1) of theDTAA, as the Mumbai Project Office cannot be said to be a fixed placeof business through which the core business of the Assessee was whollyor partly carried on. Also, as correctly argued by Shri Ganesh, theMumbai Project Office, on the facts of the present case, would fallwithin Article 5(4)(e) of the DTAA, inasmuch as the office is solely anauxiliary office, meant to act as a liaison office between the Assesseeand ONGC. This being the case, it is not necessary to go into any of theother questions that have been argued before us.