Permanent Establishment (PE) of Assessee in India
1. Unless the conditions of paragraph 5 of Article 7 of the Indo-US DTAA is satisfied, it cannot be held that Nortel India constituted a fixed place of business of the Assessee
2. In order to conclude that Nortel India constitutes a Dependent Agent PE, it would be necessary for the AO to notice at least a few instances where contracts had been concluded by Nortel India in India on behalf of other group entities. In absence of any such evidence, this view could not be sustained
3. Even if the AO was of the view that Nortel India was not adequately remunerated for the Assignment Contract, the AO was required to make an appropriate transfer pricing adjustment in the hands of Nortel India
1. The Assessee (formerly known as Nortel Networks RIHC Inc) was incorporated as a company on 7th June, 2002 under the laws applicable in the State of Delaware, USA and is a tax resident of USA
2. The Assessee is a part of Nortel Group which is stated to be a leading supplier of hardware and software for GSM Cellular Radio Telephone Systems
3. The Assessee is a step-down subsidiary of Nortel Networks Limited (Canada), a company incorporated in Canada (hereafter ‗Nortel Canada‘); it is wholly held by Nortel Networks Inc. which in turn is wholly owned subsidiary of Nortel Canada. Nortel Canada also has an indirect subsidiary in India, namely, Nortel Networks India Pvt. Ltd (hereafter 'Nortel India‘)
4. Nortel Canada also owns 99.99% of share capital of Nortel Networks (Luxemburg) SA which in turn holds the entire share capital of Nortel Networks International Finance & Holdings BV (Nortel BV)
5. Nortel BV holds 99.99% shares of Nortel Networks Mauritius Limited, a company incorporated in Mauritius, which in turn holds 99.99% of Nortel India
6. The Nortel Canada also has a Liaison Office in India (hereafter called 'Nortel LO‘)
7. Nortel India negotiated and entered into three contracts with Reliance Infocom Limited (hereafter 'Reliance‘), namely, Optical Equipment Contract (hereafter 'the Equipment Contract‘), Optical Services Contract (hereafter 'the Services Contract‘) and the Software Contract (hereafter 'the Software Contract') on 8th June 2002
8. On the same date, Nortel India entered into an agreement assigning all rights and obligations to sell, supply and deliver equipment under the Equipment Contract to the Assessee (hereafter referred to as the ‗Assignment Contract‘)
9. Reliance and Nortel Canada were also parties to the Assignment Contract and in terms thereof, Nortel Canada guaranteed the performance of the Equipment Contract by the Assessee (Assignee)
10. In terms of the Assignment Contract, Reliance placed purchase orders directly on the Assessee and also made all payments for the equipment supplied directly to the Assessee
11. The equipments supplied to Reliance were manufactured by Nortel Canada and another Nortel group entity in Ireland (Nortel Ireland)
12. The same was invoiced by the Assessee directly to Reliance and consideration for the same was also received directly by the Assessee
13. It is asserted by the AO that the equipment supplied to Reliance was sourced from Nortel Canada and Nortel Ireland at a much higher price than the price charged to Reliance and this resulted in the Assessee suffering a loss during the relevant period
14. Since according to the Assessee, its income was not chargeable to tax under the Act, it did not file any return for the AYs 2003-04 and 2004-05
15. On 27th March, 2006, the AO issued a notice under Section 148 of the Act calling upon the Assessee to file its return of income for the AY 2003-04
16. In response to the aforesaid notice, the Assessee filed its return of income on 16th May, 2006 disclosing its taxable income as 'Nil‘
17. Thereafter, the AO issued notice under Section 143(2) of the Act
18. In response to the aforesaid notices, the Assessee filed its statement of accounts disclosing the loss stated to have been incurred by the Assessee
19. The Assessee did not file its balance sheet or its audited accounts as according to the Assessee, it was not required to have its accounts audited in the tax jurisdiction where the Assessee is a resident, namely, Delaware, USA
20. Thereafter, on 18th December, 2006, the AO passed an assessment order under Section 143(3)/147 of the Act
21. The AO observed that the Assessee had not booked any establishment cost, depreciation or any other indirect costs in its accounts
22. The AO noted that the equipment stated to have been supplied by the Assessee to Reliance was purchased from other group companies, namely, Nortel Canada and Nortel Ireland and were supplied to Reliance at almost half the price of the said goods
23. On the aforesaid basis, the AO concluded that the Assessee did not have any financial or technical ability to perform the Equipment Contract
24. The AO further concluded that Nortel India and Nortel LO were involved in pre-contract survey, pre-contract negotiation, finalization of documents and carrying out of installation activities and at ground level, there was no difference between the LO and Nortel India and both were operating from the same premises and were providing services to the group companies including the Assessee
25. The AO further held that the contracts with Reliance constituted a single turnkey contract which had been artificially divided into three separate contracts
26. The AO further held that Nortel India also did not have the capacity to undertake the contracts entered into with Reliance and consequently, the same was transferred to other Nortel Group Companies including the Assessee
27. According to the AO, the Assessee was ―a shadow company of Nortel Group.
28. On the basis of its findings, the Assessee concluded that Nortel India and Nortel LO constituted the Assessee‘s PE in India (both Fixed Place PE as well as Dependent Agent PE)
29. In view of the finding that the Assessee was inserted as an intermediary and a shadow company of Nortel Canada solely for the purpose of evading taxes, the AO rejected the accounts furnished by the Assessee and further observed that the accounts provided by the Assessee were not audited and had "no sanctity"
30. He then proceeded to estimate the taxable income of the Assessee based on the accounts of Nortel Group
31. The AO noticed that the global accounts of the Nortel Group disclosed a gross profit margin of 42.6%. He held that average selling, general and marketing expenses of other similarly placed non-resident companies was 5% of the turnover and, therefore, made an allowance of 5% of such expenses. He also made a further allowance for Head office expenses at 5% of the adjusted profits and estimated the total taxable income of the Assessee at Rs.81,28,06,917/-
32. The Assessee appealed against the aforesaid assessment order to CIT(A)
33. The CIT(A) observed that -
a) that the Assessee was assigned the contract for supply of hardware to Reliance Infocom days after its incorporation
b) this is the only business that appellant had done during the relevant period under consideration
c) the Assessee did not have any financial or technical capability of its own
d) the equipment supplied was manufactured by Nortel Canada and Nortel Ireland and shipped directly from Canada/Ireland
e) that the Assessee had supplied the equipment at approximately half its purchase price, thus, incurring huge trading loss in the transaction
34. The CIT(A) held that the transactions were to be viewed as a whole and not merely in the form of the agreement
35. On the basis of the aforesaid findings, the CIT(A) upheld the conclusion of the AO that the Assessee was a paper company incorporated only with a motive to evade income tax liability on the income arising out of the supply contract in India and, therefore, Nortel Canada and the Assessee were to be considered as a single entity
36. The CIT(A) further rejected the Assessee's contention that it did not have a business connection in India
37. On the issue of existence of a PE in India, the CIT(A) held that there were two places in the business model which could be considered to be Assessee's fixed place of business -
i. the location of Nortel India to which employees of Nortel Group were sent on secondment basis to assist in the execution of the project; and
ii. the place of installation of equipment
38. Further, the CIT(A) also held that office of Nortel LO and Nortel India would also constitute a fixed PE of the Assessee in India as the Assessee and Nortel Canada were one and the same entity
39. The CIT(A) further held that keeping in view the facts of the case, 50% of the profits of the Assessee's estimated profits could be attributed to the PE in India
40. Both, the Assessee and the Revenue preferred appeals against the order dated 22nd December, 2009
41. The ITAT concurred with the AO and the CIT(A) that the contracts entered into between Nortel India and Reliance Infocom were a part of a 'turnkey contract' which had been artificially split up into three separate contracts
42. The ITAT further upheld the conclusion that the Assessee was only a shadow company of Nortel Group and was getting its work inter alia executed through Nortel India
43. The ITAT also concurred with the view that the LO of Nortel Canada was rendering all kinds of service to Group companies including the Assessee and constituted a fixed place PE of the Assessee
44. As regards the attribution of income to the Assessee's PE in India, the ITAT concurred with the CIT(A)'s view that 50% of the estimated profits were attributable to the Assessee's PE in India
45. Assessee moved to Honb. Delhi High Court.
46. The principal controversy involved in these appeals before Delhi High Court is whether the Assessee, a tax resident of United States of America (USA), has a Permanent Establishment (hereafter 'PE') in India and consequently, is chargeable to tax under the Act in respect of its business income attributable to its PE in India
47. After bearing both parties Honb. Delhi High Court concluded that the Assessee did not have Permanent Establishment (PE) in India and decidedthe issue in favour of the Assessee
1. It is now well settled that the corporate veil can be lifted only in exceptional and limited circumstances. Indisputably, in cases where it is found that the corporate structure has been devised only for evasion of taxes, the courts have permitted piercing of the corporate veil and this is a well accepted exception to the rule of a company being a juristic entity having a separate identity. However, piercing a corporate veil can be justified only in circumstances where it is found that a company has been incorporated only to evade taxes; the company has no real substance; and there is no commercial expediency for incorporating the company.
2. Although, the Assessee had repeatedly asserted that all other obligations for testing, installation and commissioning was done by Nortel India, for which Nortel India had been paid separately, no material or evidence was gathered by the AO to contradict the same. There is no material to indicate that equipment for Test Bed Laboratory, which was to be supplied at no additional cost to Reliance had been procured by Nortel India at additional cost or that Nortel India was not remunerated for all the services rendered by it to Reliance. In terms of the Equipment Contract, adequate stock of spares was required to be maintained in India, however, there is no material to indicate that such stock was maintained in India by the Assessee or that such stock was maintained by Nortel India, not on its own behalf but on behalf of the Assessee, without being sufficiently remunerated. Thus, in absence of any such evidence or material, it is difficult for us to concur with the view that certain activities were performed in India for which the consideration was received by the Assessee.
3. It is also necessary to observe that even if the AO was of the view that Nortel India was not adequately remunerated for the Assignment Contract, the AO was required to make an appropriate transfer pricing adjustment in the hands of Nortel India.
4. Thus, in our view, the question whether the Assessee has a PE in India is not material as it is not possible to hold that any part of the income of the Assessee could be apportioned to operations carried on in India.
5. The AO, CIT(A) and ITAT have held that the office of Nortel India and Nortel LO constituted a fixed place of business of the Assessee. As pointed out earlier, we find no material on record that would even remotely suggest that Nortel LO had acted on behalf of the Assessee or Nortel Canada in negotiating and concluding agreements on their behalf. Thus, it is not possible to accept that the offices of Nortel LO could be considered as a fixed place of business of the Assessee. In so far as Nortel India is concerned, there is also no evidence that the offices of Nortel India were at the disposal of the Assessee or Nortel Canada. Even if it is accepted that Nortel India had acted on behalf of the Assessee or Nortel Canada, it does not necessarily follow that the offices of Nortel India constituted a fixed place business PE of the Assessee or Nortel Canada. Nortel India is an independent company and a separate taxable entity under the Act. There is no material on record which would indicate that its office was used as an office by the Assessee or Nortel Canada. Even if it is accepted that certain activities were carried on by Nortel India on behalf of the Assessee or Nortel Canada, unless the conditions of paragraph 5 of Article 7 of the Indo-US DTAA is satisfied, it cannot be held that Nortel India constituted a fixed place of business of the Assessee or Nortel Canada.
6. The AO has further alleged that the offices of Nortel LO and Nortel India were used as a sales outlet. In our view, this finding is also unmerited as there is no material which would support this view. The facts on record only indicate that Nortel India negotiated contracts with Reliance. Even assuming that the contracts form a part of the single turnkey contract, which include supply of equipment - as held by the authorities below - the same cannot lead to the conclusion that Nortel India was acting as a sales outlet.
7. The AO‘s conclusion that there is an installation PE in India, is also without any merit. A bare perusal of the Services Contract clearly indicates that the tasks of installation, commissioning and testing was contracted to Nortel India and Nortel India performed such tasks on its own behalf and not on behalf of the Assessee or Nortel Canada. Undisputedly, Nortel India was also received the agreed consideration for performance of the Services Contract directly by Reliance.
8. The finding that Nortel India is a services PE of the Assessee is also erroneous. There is no material to hold that Nortel India performed services on behalf of the Assessee.
9. The AO has also held that Nortel India constituted Dependent Agent PE of the Assessee in India. The aforesaid conclusion was premised on the finding that Nortel India habitually concludes contracts on behalf of the Assessee and other Nortel Group Companies. In the present case, there is no material on record which would indicate that Nortel India habitually exercises authority to conclude contracts for the Assessee or Nortel Canada. In order to conclude that Nortel India constitutes a Dependent Agent PE, it would be necessary for the AO to notice at least a few instances where contracts had been concluded by Nortel India in India on behalf of other group entities. In absence of any such evidence, this view could not be sustained.
10. The CIT(A) as well as the ITAT has proceeded on the basis that the Assessee had employed the services of Nortel India for fulfilling its obligations of installation, commissioning, after sales service and warranty services. The ITAT also concurred with the view that since employees of group companies had visited India in connection with the project, the business of the Assessee was carried out by those employees from the business premises of Nortel India and Nortel LO. In this regard, it is relevant to observe that a subsidiary company is an independent tax entity and its income is chargeable to tax in the state where it is resident. In the present case, the tax payable on activities carried out by Nortel India would have to be captured in the hands of Nortel India. Chapter X of the Act provides an exhaustive mechanism for determining the Arm's Length Price in case of related party transactions for ensuring that real income of an Indian Assessee is charged to tax under the Act. Thus, the income from installation, commissioning and testing activities as well as any function performed by expatriate employees of the group companies seconded to Nortel India would be subject to tax in the hands of Nortel India and the same cannot be considered as income of the Assessee.
11. Thus, the first three questions framed in ITA 671/2014, 672/2014, 669/2014 and 689/2014 are answered in the affirmative, that is, in favour of the Assessee and against the Revenue.
12. In view of our conclusion that the Assessee's income from supply of equipment was not chargeable to tax in India, the question relating to attribution of any part of such income to activities in India does not arise. In view of our conclusion that the Assessee does not have a PE in India, the question of attribution of any income to the alleged PE also does not arise.
Cases Referred to