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SERVICE PE . AKIL HIRANI Managing Partner M AJMUDAR & C O . 96 Free Press House, Free Press Journal Road, Nariman Point, Mumbai-21, INDIA Tel: +91 22 6630-7272, Fax: +91 22 6630-7252 Other offices: Bangalore, New Delhi, Chennai and Hyderabad E-mail: [email protected]

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SERVICE PE

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SERVICE PE

AKIL HIRANI

Managing Partner

MAJMUDAR & CO.

96 Free Press House, Free Press Journal Road, Nariman Point, Mumbai-21, INDIA

Tel: +91 22 6630-7272, Fax: +91 22 6630-7252

Other offices: Bangalore, New Delhi, Chennai and Hyderabad

E-mail: [email protected]

www.majmudarindia.com

INTERNATIONAL LAWYERS


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Synopsis

  • Service PE under the OECD Model Tax Convention and the UN Model Tax Convention

  • Service PE under DTAAs between India and other countries

  • When is a service PE deemed to be concluded?

MAJMUDAR & CO.

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Service PE under the OECD Model Tax Convention and UN Model Convention

  • OECD Model Tax Convention – No specific provision for service PE

  • UN Model Convention – Does not use the expression “service PE” – Article 5(3)(b) of the UN Model Convention reads as follows:

    The furnishing of services, including consultancy services, by an enterprise through employees or other personnel engaged by the enterprise for such purpose, but only if activities of that nature continues (for the same or a connected project) within the country for a period or periods aggregating more than six (6) months within any twelve (12) month period.

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Service PE under the OECD Model Tax Convention and UN Model Convention (contd.)

  • Rationale of Service PE Clause – to tax the enterprise of the home country for its economic activities in the host country beyond a threshold limit

  • No Clause on ‘fees for technical services’ in the UN Model Convention


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Service PE in DTAAs between India and other countries

  • Service PE is included in the DTAAs between India and the following countries:

    • Australia – Article 5(3)

    • Canada – Article 5(2)(l)

    • China – Article 5(2)(k)

    • United States of America – Article 5(2)(l)

    • United Kingdom – Article 5(2)(k)

    • Switzerland – Article 5(2)(l)

    • Singapore – Article 5(6)

    • Norway – Article 5(2)(l)

    • Indonesia – Article 5(5)

    • Nepal – Article 5(2)(h)

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Requirements to establish service PE

  • Services to be rendered by the employees or “other personnel” engaged by the enterprise for a specified period within the host state

    • “other personnel” – generally does not include non-individuals – no clarity in the UN and OECD commentaries

    • DTAA between UK and Singapore – service PE is triggered if services rendered through a non-person, for e.g., a company

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Requirements to establish service PE (contd.)

  • Time period

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Requirements to establish service PE (contd.)

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Requirements to establish service PE (contd.)

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Other issues

  • Definition of a “month” – Section 3(35) – General Clauses Act, 1897 – as per British calendar

  • Not a problem as most DTAAs give exact number of days

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Requirements to establish service PE (contd.)

  • Nature of services

    • UN Model Convention – uses the term “furnishing of services, including consultancy services.”

    • “furnishing services, including managerial services” – used in the DTAAs signed by India with Australia and United Kingdom

    • “furnishing of services” – used in the DTAAs signed by India with China, Canada, Nepal, Singapore, Switzerland and United States of America – no impact – “furnishing of services” is sufficiently wide to cover all kinds of services, including consultancy and managerial

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Requirements to establish service PE (contd.)

  • DTAAs signed by India with the following countries specifically exclude certain categories of services from the Service PE Clause:

    • United Kingdom – excludes services covered under Article 13 of the DTAA (Royalties and fees for technical services)

    • Singapore – excludes supervisory activities in relation to building sites, etc., covered under Article 5(4) and services in relation to exploration covered under Article 5(5)

    • Australia – excludes services in respect of which payments or credits that are royalties as defined in Article 12

    • Canada – excludes services covered under Article 12 (Royalties and fees for included services)

    • China - excludes technical services as defined in Article 12 (Royalties and Fees for Technical Services)

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Other issues

  • Definition of a “month” – Section 3(35) – General Clauses Act, 1897 – as per British calendar

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“Services within a country”

  • Some treaties use “within” and some use “in” – dictionary meaning is the same

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In re P. No. 28 of 1999

  • A (Indian company) and B (US company) formed a JV in India (AB) to manufacture automobiles

  • XYZ – wholly owned subsidiary of B

  • Provides services to B’s group companies

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In re P. No. 28 of 1999 (contd.)

  • AB and XYZ executed a management services agreement – XYZ is to provide executive personnel (finance, service, marketing, etc.)

  • XYZ contended that it worked as an employment agency – however, AAR noted that the personnel were not employees of AB – AB paid XYZ for the services and not the personnel

  • XYZ assumes responsibility for suitability and competence of personnel for the tasks assigned to them

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In re P. No. 28 of 1999 (contd.)

  • XYZ is responsible to replace the personnel if they resign

  • XYZ has to provide substitutes if these personnel are assigned to another project - AB can ask XYZ to provide additional personnel, if required

  • AAR ruled that Service PE exists

  • In Re. P. No. 28 of 1999, [2000] 242 ITR 208 (AAR)

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Metapath’s Case

  • Metapath – telecom software company

  • Joint Venture in India with Bharti Cellular

  • Two (2) Expatriates sent to India to assist with the setup and establishment of the JV

  • Stayed in India for one (1) year

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Metpath’s Case (contd.)

  • Employed by both Metapath UK and Metapath India – salaries paid by UK – expenses paid by India

  • CIT (Appeals) held that Service PE was in fact concluded as the expatriates were rendering services in India to the Indian JV.

  • Issue raised in appeal but the Delhi High Court did not deal with the issue of Service PE in the judgment

  • DCIT v. Metapath Software International, Inc., [2006] 9 SOT 305 (NULL)

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Morgan Stanley’s Case

  • MS and Co., Inc. outsourced some of its functions to MSAS

  • MS and Co., Inc. also provided some personnel who were overseeing the outsourced activities and they were also providing managerial services

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Morgan Stanley’s Case (contd.)

  • Secondment arrangement

    • MS and Co., Inc. bore the risk of the employee’s activities

    • The employees were assured of their original jobs when they returned to the US

    • Employees were under MS and Co., Inc’s control

  • AAR ruled Service PE existed

  • Appeal to Supreme Court

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Morgan Stanley’s Case (contd.)

  • Supreme Court differentiated between “stewardship activities” and “deputationist”

    • Stewardship – protect MS and Co., Inc’s interest – not a service to MSAS – no Service PE

    • Deputationist – day-to-day management of MSAS – Service PE concluded

  • However, no income attributable to Service PE as MSAS was remunerated on an arm’s length basis

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Morgan Stanley’s Case (contd.)

  • Pointers

    • Widely acclaimed as the right decision for the wrong reasons

    • Co-relation between Article 5(1) and 5(2) – Whether the services are related to the foreign enterprise’s business

    • Attribution – MSAS was not reckoned as Service PE – Service PE would be some sort of a fictional entity

    • Avoid “lien”, “risk” and “control”

  • DIT v. Morgan Stanley, [2007] 292 ITR 416 (SC)

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Golf in Dubai’s Case

  • Golf in Dubai LLC – organizes golf tournaments internationally

  • Conducted two (2) golf tournaments in India

  • Hired golf courses – received sponsorships from India and abroad

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Golf in Dubai’s Case (contd.)

  • AAR

    • “furnishing of services” – bilateral concept

    • Requires service provider and service recipient

    • No such service recipient exists – hence no Service PE

    • In any event – time threshold not breached

  • In Re. Golf in Dubai, LLC, (2008) 219 CTR (AAR) 513

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Lucent Technologies’ Case

  • Lucent – hardware and software for mobile phones

  • Indian customers – after sales services, installation, etc., through Lucent India

  • Expatriates from Lucent Affiliate

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Lucent Technologies’ Case (contd.)

  • ITAT held as follows:

    • Service PE clause covers “other personnel”

    • “Other personnel” – controlled by the foreign enterprise

    • Affiliate’s personnel controlled by Lucent

    • Service PE concluded

  • Lucent Technologies International, Inc. v. DCIT, (2009) 120 TTJ (Delhi) 929

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Worley Parsons’ Case

  • Worley Parsons – Australian company

  • Engaged by ONGC

  • Employees visited India to review documentation

  • Six projects in total

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Worley Parsons’ Case (contd.)

  • AAR – key issues:

    • Whether a single contract can be called “services” – as same counterparty and same purpose – all contracts together amount to the “services”

    • As contracts 2, 3 and 4 fall within the same financial year – they are to be reckoned together to determine number of days

    • Service PE concluded w.r.t. Contracts 2, 3 and 4

  • Worley ParsonsServices Pvt. Ltd. v. DIT, [2009] 313 ITR 74 (AAR)

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Attribution of Profits

  • Generally covered under Article VII

  • Involves a fair amount of estimation

  • Three (3) approaches:

    • Direct attribution – profits that the PE would have made if it was dealing with the enterprise on an arm’s length basis – most treaties have this clause

    • Indirect attribution – profits relevant to the portion of the work done by the PE – e.g., UK

    • Force of Attraction – US is a typical example

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Attribution of Profits (contd.)

  • Section 9(1) – “income accruing or arising, whether directly or indirectly, through or from”

  • Explanation to Section 9(1) – income “reasonably attributable to the operations carried out in India”

  • Rule 10 of the Income Tax Rules, 1962 – when actual income cannot be accurately ascertained – three (3) methods

    • Presumptive Method – Rule 10(i) – percentage of turnover as may be considered reasonable

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Attribution of Profits (contd.)

  • Proportionate Method – Rule 10(ii) – calculated on the basis that ratio of Indian turnover to global turnover should be equal to ratio of Indian profits to global profits

  • Discretionary Method – Rule 10(iii) – “in such other manner as the AO may deem fit”

  • Presumptive Method – taxation on a gross basis – Sections 44AD, 44AE, 44AF, 44B, 44BB, 44BBA, 44BBB

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    Confusing Judicial Guidance

    • In re P. No. 28 of 1999 (supra)

      • Question not expressly pressed before the authority

      • Obiter – Profits attributable to the services – fees received as consideration

    • Morgan Stanley (supra)

      • No further attribution because MSAS was remunerated at arm’s length – however, MSAS was not reckoned as the PE

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    Confusing Judicial Guidance (contd.)

    • Lucent Technologies (supra)

      • Question regarding attribution not raised in appeal before ITAT

    • Worley Parsons (supra)

      • “income therefrom will have to be computed in accordance with Article VII of the DTAA”

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    Case Study - A

    • Intra-group outsourcing transaction

    • ABC, Inc. – Outsources functions to subsidiary – ABC India (Private) Limited

    • Secondment arrangement – MD of ABC India is an ABC US employee – derives salary from both – TDS at both levels

    • Secondment arrangement includes indemnity from ABC US to ABC India for MD’s actions

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    Case Study - B

    • Intra-group outsourcing transaction

    • ABC, Inc. – sets up ABC India (Private) Limited – Outsourcing contract states that ABC, Inc. to provide personnel for carrying out the outsourcing work

    • Contracts with XYZ in India for providing staff (on loan basis) to ABC India (Private) Limited

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    Case Study - C

    • Intra-group outsourcing transaction

    • ABC, Inc. – sets up ABC India (Private) Limited – Outsourcing contract states that ABC, Inc. to provide personnel for carrying out the outsourcing work

    • Contracts with XYZ in India for providing staff (on loan basis) to ABC, Inc. – thereafter seconds loaned staff to ABC India

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    Case Study - D

    • US marketing firm – receives contract for a product in India

    • Engages a subcontractor (Indian company) on a principal-to-principal basis for executing part of the contract in India

    • Whether any Service PE exposure exists?

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    Case Study - E

    • UK company – establishes (76:24) JV in India

    • Sends employees to India to establish JV business

    • Employees stay in India as follows:

      • Mr. A – March 1 – April 1

      • Mr. B – March 1 – April 1

      • Mr. C – March 1 – April 1

    MAJMUDAR & CO.

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    Thank You

    MAJMUDAR & CO.

    96 Free Press House, Free Press Journal Road, Nariman Point, Mumbai-21, INDIA

    Tel: +91 22 6630-7272, Fax: +91 22 6630-7252

    Other offices: Bangalore, New Delhi, Chennai and Hyderabad

    E-mail: [email protected]

    www.majmudarindia.com

    INTERNATIONAL LAWYERS


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