Exclusion of Telecommunication Expeneses from both ET & TT for Sec 10A.

DCIT vs M/s Intel Technology India Ltd, (ITAT Bangalore)

Assessing Officer has by referring to clause (iv) of Explanation 2 to section 10A of the Act, reduced telecommunication expenses/leaselines charges from the export turnover but did not reduced such charges from the total turnover. On Appeal CIT (A) directed the AO to recompute deduction u/s 10A of the Act after excluding expenditure incurred on up-linking charges out of telecommunication expenses from both export turnover and the total turnover. Revnue has gone in appeal against the order of Honorable ITAT which held as under :-

In the case of Sak Soft Ltd. (supra), the assessee was engaged in the business of exporting computer software and claimed deduction u/s 1oB of the Act. In completing the assessment u/s 143(3) of the Act, the AO reduced the expenditure incurred in foreign exchange in providing the technical services outside India, from the export turnover without corresponding reduction from total turnover, thereby reducing the deduction claimed by the assessment u/s 10B of the Act.

1o.2 In light of the above facts, the Special Bench held as under:-

“For the above reasons, we holdthat for the purpose of applying the formula under sub-section (4) of section 1oB, the freight, telecom charges or insurance attributable to the delivery of articles or things or computer software outside India or the expenses, if any, incurred in foreign exchange in providing the technical services outside India are to be excluded both from the export turnover andfrom the total turnover, which are the numerator and the denominator respectively in the formula. The appeals filed by the department are thus dismissed’.

Although the order of Special Bench is in the context of section 1oB of the Act, the ratio laid down in the above decision applies to section 1oA of the Act as well, as the provisions of sections 1OA and 1OB are identical on all material aspects. More particularly, both the sections define only export turnover but not total turnover and sub-section (4) of both the sections prescribe an identical formula for computing the export profits.

10.3 In the light of the above reasoning, we uphold the orders of the CIT(A) and direct the AO to exclude the above mentioned expenses both from the export turnover as well as from the total turnover while calculating deduction u/s 10A of the Act.

Tax on Liason Office

Delhi ITAT rules on taxation of procurement activity undertaken by a foreign company through a liaison office in India

Delhi Income Tax Appellate Tribunal (ITAT) [2011-TII¬05-ITAT-DEL-INTL] in the case of Linmark International (Hong Kong) Ltd. (Taxpayer) on taxation of procurement activity undertaken by the Taxpayer through its liaison offices (LOs) in India held that, as the LOs in India were carrying out real and substantive business operations of the Taxpayer, income could accrue or arise to the Taxpayer in India. The exclusion from taxation for activities of purchasing goods for the purpose of export provided for in the Indian Tax Laws (ITL), could not be relied upon by the Taxpayer. Furthermore, given the extent of functions carried on by the Taxpayer in India, 50% of the commission earned by the Taxpayer’s parent company from third party customers should be attributable to the LOs’ activities.

Background and facts

Linmark Development (BVI) Ltd. (BVI Co), a company incorporated in the British Virgin Islands, is in the business of providing buying and procurement services to unrelated customers located in the USA, Canada, Australia, Europe and other countries located in the Asian region, including India. In this connection, it entered into a service agreement with its group company, Linmark International (Hong Kong) Ltd., a company incorporated in and a resident of Hong Kong i.e., the Taxpayer.

Under the service agreement, the Taxpayer was engaged to provide facilitation services in connection with buying of goods from various countries in Asia. These services were rendered to the buyers which were identified by BVI Co.

The Taxpayer acted as a communication and connecting link between BVI Co, its buyers and vendors in India. For this purpose, the Taxpayer had set up LOs in India. The Taxpayer and its LOs in India acted as a coordinating agency. BVI Co received commission from its buyers, calculated on a fixed percentage of the value of the goods exported to its clients outside India; typically in the range of 5-6%. For its services, the Taxpayer was remunerated at 1% of the value of the goods.

The Taxpayer was of the view that it was not taxable in India in view of a specific exclusion from taxation that was contained in the ITL for activities of a non-resident engaged in purchasing goods for the purpose of export out of India (‘purchase exclusion’).

The Tax Authority was of the view that BVI Co was a non-functional entity and did not play any role in the goods sourced from India as the employees of the Taxpayer directly corresponded with the customers and vendors. Furthermore, the Indian operations performed by the LOs in India had the effect that all business transactions, except formation of contracts, were carried out in India. Hence, the Taxpayer was liable to be taxed in India. The Tax Authority relied upon information gathered during a survey that was conducted on the LOs in India, which included interviews with the Taxpayer’s personnel in India on the activities carried on by the LOs. The Tax Authority attributed 90% of the commission earned by BVI Co to the LOs for the purpose of taxation.

The Taxpayer preferred an appeal to the first appellate authority which held that since the LOs were carrying on substantial business activities, the Taxpayer had a business connection in India. Hence, the Taxpayer was liable to be taxed on the income attributable to the LOs in India. On reviewing the functions, assets and risks (FAR) analysis presented by the Taxpayer, the first appellate authority was of the view that significant functions in the procurement supply chain and related risks should be allocated to the Indian operations. Accordingly, income attributable to India was determined as 72% of the commission earned by BVI Co. Aggrieved by the above, the Taxpayer approached the ITAT.

Taxpayer’s contentions

The Taxpayer was a coordinating agency between the buyer and seller and it acted on the basis of instructions received from the buyers of BVI Co.

The activities carried on in India are confined to operations of purchase of goods in India for the purpose of exports and, hence, the Taxpayer is covered by the ‘purchase exclusion’ contained in the ITL.

No income accrues or arises to the Taxpayer in India. Furthermore, in view of the specific ’purchase exclusion’ that deals with the Taxpayer’s case more specifically, the same should have precedence over the general provisions relating to accrual of income.

Tax Authority’s contentions

The Taxpayer is carrying on several activities in India through its LOs. The original FAR submitted by the Taxpayer itself attributed 33% of the activities to the LOs which provides a clear inference that income accrues to the Taxpayer in India.

Where income accrues or arises in India, one cannot rely on the ‘purchase exclusion’ as that provides exclusion only for incomes that are deemed to accrue or arise and not for incomes that actually accrue or arise in India.

The Taxpayer is not an exporter of goods. Furthermore, the offices in India, though termed as LOs, are functioning offices contributing to the profits of the Taxpayer.

The income attributable to the activities in India cannot be as low as '% which is the remuneration as agreed between the Taxpayer and BVI Co.

ITAT’s Ruling

Taxability in India

The relevant provisions of the ITL relating to charge of income tax on a non-resident has two independent components: (a) Income which accrues or arises in India (b) Income that is deemed to accrue or arise in India. The second component of the provision is further amplified by illustrating the incomes that are regarded as deemed to accrue or arise in India.

The ’purchase exclusion’ only scales down the extent of incomes that are deemed to accrue or arise in India. Such a limitation cannot be read into the provision which deals with income that accrues or arises in India.

Reliance was placed on the Supreme Court decision in the case of Performing Right Society Ltd. & Another v. CIT & Others' where it was held that, where income has actually accrued in India, there is no requirement to further examine whether the income is covered by the provision that deems income to accrue or arise in India. Furthermore, whether income accrues or arises in India is a question of fact which should be looked at and decided in the light of common sense and plain thinking.

It cannot be said that the activities carried on by the LOs in India are not in the normal course of business of the Taxpayer. The LOs carry out all operations of the business of the Taxpayer except the formation of the contract between the vendors and the customers which, in any case, cannot be done by the Taxpayer.

Notwithstanding the nomenclature of a ‘liaison office’, the offices in India are carrying out real and substantive business operations of the Taxpayer and, therefore, income accrues or arises in India.

Attribution of income to Indian LOs: The first appellate authority, while arriving at the attribution of income, had overstated the role of the Indian offices in the overall conduct of business of BVI Co. However, some employees of the Taxpayer were not even aware of the existence of BVI Co and they were dealing directly with the vendors and the customers. Furthermore, the Taxpayer had not pointed out any error in the analysis of the first appellate authority. Based on the above, a partial relief was provided to the Taxpayer and 50% of the commission of BVI Co was attributed to the Indian operations.

This ruling clarifies that the ‘purchase exclusion’ contained in the ITL for export of goods out of India can be relied upon by a non-resident only if income otherwise does not accrue or arise in India. This ruling also states that if a non-resident taxpayer undertakes substantive procurement or buying functions in India, it is likely that income could accrue or arise in India.

This ruling highlights the need for multinational enterprises to review their existing procurement supply chains for India to assess the possible exposure to a taxable presence.

Tax treatment of Gratuity after Increase in limit from 3.50 lakh to 10 lakh

The government notified the Payment of Gratuity (Amendment) Act, 2010 on May 18, 2010, which increases the limit of gratuity payment to employees in the specified sectors/establishments covered under the Payment of Gratuity Act, 1972 (“Gratuity Act”). After the amendment, these employees are eligible to receive gratuity up to Rs 10,00,000, which was earlier restricted to Rs 3,50,000. Thus, crores of workers will be benefited in establishments covered by the Gratuity Act.

Meaning of Gratuity :-Gratuity refers to the emoluments received by an employee from his employer in gratitude for the services rendered. Such sum can be paid on retirement, resignation, superannuation, death or disablement. Under the Gratuity Act, the sum can be paid only after an employee has rendered continuous service of not less than five years. Exceptions being termination of employment on account of death/disablement.

Eligibility criteria:-Gratuity shall be payable to an “employee” on the termination of his employment after he has rendered continuous service for not less than five years.

• On his superannuation.

• On his retirement or resignation.

• On his death or disablement due to accident or disease.

Note: However, the condition of five years of continuous service is not necessary if service is terminated due to death or disablement.

To whom is Gratuity Payable?

Gratuity is normally payable to the employee himself, however in the case of death of the employee it shall be paid to his nominee & nomination has been made to his heirs. Incase the nominee is a minor; share of the minor shall be deposited with the controlling authority who shall invest the same for benefit of the minor, until he/she attains majority.

Taxability of Gratuity

From a tax perspective, gratuity received by an employee is taxable as salaries. The Income tax Act segregates the employees receiving gratuity on the following basis:

==> Government employees;

==> Non – Government employee covered under the Gratuity Act.

==> Non – Government employee and not covered under the Gratuity Act.

Based, on the above segregation, necessary exemptions from tax can be claimed on the gratuity received.

Exemption available for employees covered under the Gratuity Act

In case of employees covered under the Gratuity Act, exemption is limited to the extent of minimum of the following:

i) Gratuity actually received

ii) 15 days salary for every completed year of service or part thereof (i.e. services in excess of 6 months will be treated as full year service)

iii) Rs 3,50,000 (the maximum limit as provided in the Gratuity Act)

The increase in limit to Rs 10,00,000 in the Gratuity Act (from the erstwhile Rs 3,50,000) in a way indicates that the tax exemption may also increase.

As per the Act, the gratuity amount is 15 days’ wage multiplied by the number of years put in by you. Here wage refers to basic salary plus dearness allowance. Take the monthly salary drawn by you last (basic + dearness allowance) at the time of resignation or retirement. Divide this by 26. This gives you your daily salary. Multiply this amount by 15 days, and further by the number of years of service you have put in.

If you have put in 10 years and seven months in an organisation, your service period will be taken to be 11 years. But if your service tenure is 10 years and five months, then for the purpose of this calculation your tenure will be taken to be 10 years only.

Take an example. Suppose that your average monthly salary is Rs 26,000. Your daily salary will be Rs 1,000. Multiply this by 15 and then by 10. The gratuity you are entitled to after 10 years of service will be Rs 1.5 lakh.

Formula :- Gratuity shall be calculated as per the below formula:

Gratuity = Last drawn salary x 15/26 x No. of years of service

Your last drawn salary will comprise your basic + DA. For computation of gratuity, your service period will be rounded off to the nearest full year.

Tax impact of the amendment

The tax impact can be explained by way of an example. Suppose, Mr A retires from a software company after servicing for 35 years and at the time of retirement his basic salary was Rs 50,000 per month.

Upon retirement, Mr A is eligible for a gratuity payout of Rs 10,00,000 and is covered under the Gratuity Act.

This example indicates that by increasing the limit, Mr A will be getting more gratuity and also a significant tax benefit.

Taxable amount of gratuity in different scenarios

Taxable Gratuity – Pre Amendment Taxable Gratuity – Post Amendment

Least of the following shall be exempt :

1) Actual gratuity received – Rs 10,00,000

2) 15 days salary for every completed year of service or part thereof – 50,000*15/26*35 = Rs 10,09,615

3) Rs 3,50,000 Least of the following shall be exempt :

1) Actual gratuity received – Rs 10,00,000

2) 15 days Salary for every completed year of service or part thereof – 50,000*15/26*35 = Rs 10,09,615

3) Rs 10,00,000

Exempt Gratuity = Rs 3,50,000 Exempt Gratuity = Rs 10,00,000

Taxable Gratuity = Rs 10,00,000- 3,50,000 = Rs 6,50,000 Taxable Gratuity = Rs 10,00,000- 10,00,000 = NIL

Open issues

There are some open issues in terms of the date from which the higher limit is applicable and whether a separate clarification/notification will come from a tax perspective. The increase in limit has got the president recently and it seems that the open issues will get clarified soon.

Conclusion

The above amendment in the Gratuity Act is a welcome step by the government and will bring lots of cheer to employees across the private sector.

Derivatives are speculative transactions if not for bona fide hedging

ACIT vs. Dinesh K. Mehta HUF (ITAT Mumbai)

S. 43(5): Derivatives are speculative transactions if not for bona fide hedging

In respect of AY 2005-06, the assessee, a dealer in shares, entered into transaction of purchases of Nifty Futures, which being a derivative instrument, was settled by payment of differences and not actual delivery of shares. The assessee argued that the transactions were hedging transactions meant to minimize the loss due to fluctuation of price of shares held as stock-in-trade and could not be regarded as speculative transactions u/s 43(5) so as to disallow the loss from being set off against other income. The AO took the view that a derivatives transaction could be regarded as a hedging transaction u/s 43(5)(b) only to the extent of the inventory of shares held by the assessee and that the excess would be regarded as a speculative transaction. As, on the date the Nifty Futures were purchased, the inventory of shares held by the assessee was less that the value of the Futures, the loss was treated as a speculation loss. The CIT (A) allowed the appeal on the ground that the s. 43(5)(d) inserted by FA 2005 w.e.f. 1.4.2006 (which provides that derivatives are not speculation transactions) was clarificatory). On appeal by the Revenue, HELD reversing the CIT (A):

(i) In Shree Capital Services 121 ITD 498 (Kol) it has been held by the Special Bench that the amendment to s. 43(5)(d) is neither clarificatory nor retrospective in operation. Consequently, derivatives can be considered non-speculative u/s 43(5)(b) only to the extent they are for hedging purposes;

(ii) The argument of the assessee that to constitute a hedging transaction u/s 43(5)(b), a transaction need not be in the same shares held by the assessee as inventory or that the value of hedging transactions should be equal to or less than the value of inventory held by the assessee is not acceptable. Circular No. 23D dated 12-9-1960 makes it clear that bona fide hedging transactions shall not be regarded as speculative provided that the hedging transactions are up to the amount of his holdings and confined to shares in his holding. The value and volume of hedging transactions should be in equal proportion and the hedging transaction should be in respect of the same scripts held by the assessee;

(iii) If the arguments of the assessee are accepted, it will lead to a situation where all speculative transactions will be claimed as hedging transactions and the purpose behind s. 73 of not permitting set off of speculative loss against business income will become redundant. The fact that in Nifty futures and index futures there cannot be any identification of shares does not change the position in law till the insertion of s. 43(5)(d);

(iv) As the AO has gone by the overall value of inventory without individual script wise tally (though required to be done), the plea of the assessee that the loss in purchase of Nifty Futures should not be considered as speculative to the extent of the value of inventory held by the Assessee on a particular day is acceptable.

Expenses incurred towards training cannot be termed as fee for technical services

SUMMARY OF CASE LAW
Training is a continuous process because technology is changing very fast and one needs to keep touch with such technology and therefore, expenses incurred towards training cannot be termed as “fee for technical services”

CASE LAW DETAILS

Decided by: ITAT, MUMBAI BENCH `L’, MUMBAI, In The case of: Lloyds Register Industrial Services (India) Pvt. Ltd. v. ACIT, Appeal No.: ITA No. 940 & 7628/Mum/04, Decided on: November 4, 2009

RELEVANT PARAGRAPH
14. We have considered the rival submissions carefully in the light of the relevant material on record as well as the decision cited by the parties. After careful perusal of various authorities relied on either side would show that they are quite distinguishable because none of the case law deals with the training expenses. In these cases some principles have been laid down. We further find that the decision relied on by the learned counsel for the assessee in the case of Ishikawajima- Harima Heavy industries Ltd. v. Director of Income-tax (supra) is not applicable because that decision has been rendered in respect of section 9(1)(vii)© which is applicable in the case of non-residents where as clause (b) deals with residents. However, at the same time, common sense would tell us that training expenses cannot be called as “fee for technical services”. For example a student passes his examination of LL.B., it does not mean he becomes fully ©quipped to deal with the cases :n various fields He needs further training under a Senior Lawyer in the chosen field say for example – taxation, service matters, civil matters or criminal matters, etc. in the modern days even these categories can be further sub-divided, for example – in the case of taxation, it can be direct taxes and indirect taxes and with further specialization, for example – say International taxation etc. Similarly, civil maters can be divided into various fields say property matters, family matters etc. What we mean to say is that a person is highly qualified by his law degree but still requires training for rendering practical aspects. Similarly, in the case before us surveyors were highly technically qualified but such persons may need to learn practical aspects of examining various electrical and other equipments Such training in our view is a continuous process because technology is changing very fast and one needs to keep touch with such technology and therefore, expenses incurred towards training cannot be termed as “fee for technical services”. In any case, the case before us major amount has been paid by way of reimbursement for boarding and lodging arrangements also for which no separate claims have been made. Therefore, according to us, the training fee cannot be termed as “fee for technical services”.

Clubbing Income of Spouse – A Practical Approach

A lot of misunderstanding persists among the taxpayers about the clubbing of income and pattern of clubbing of income. There is a chance of cut the tax burden by circulating the income to various family members. To control such practices, certain provisions have been made for clubbing of income of wife, son’s wife and minor children. However, in this article I will point only the provisions of clubbing of income comes under section 64 1(ii), 64(iv) about clubbing of income of spouse.

As per Section 64(1) of the Income-tax Act, the following income of individual (wife/husband) can be clubbed with spouse’s income-
(i) Any income from assets transferred directly or indirectly by the spouse, otherwise than for adequate consideration or in connection with an agreement to live apart. Such assets may be immovable property as well as movable property like cash, shares, debentures etc.
(ii) Salary, Commission, fee or any other form of remuneration whether in cash or in kind from a concern in which the husband has a substantial interest.
However, no clubbing will be made in case the wife/husband possesses technical or professional qualification and the income is solely attributable to the application of her technical or professional knowledge and experience-Section 64(1)(ii)
It may be noted that the above provisions are also applicable in case of transfer or any asset or in case of above referred payments by a wife to her husband or vice-versa.
Clubbing of Income in respect of remuneration of spouse
The income of spouse is clubbed with his/her income if the following conditions are satisfied.
The taxpayer is an individual
He/She has a substantial interest in a concern.
Spouse of the taxpayer (i.e. husband/wife of the taxpayer) is employed in the above-mentioned concern.
Spouse is employed in the concern without any technical or professional knowledge or experience.
To come out of the clutches of this clause, two conditions are to be satisfied cumulatively:

The spouse should possess technical or professional qualifications; and
The income received by the spouse should be solely attributable to the application of his/her such technical or professional qualification.

The term ‘technical or professional qualification’ is not defined and, therefore, it has to be given the general meaning depending upon the fact of the case. This term does not mean a qualification conferred by any educational institution after undergoing a course of study in technical subject or for a profession. It cannot be the intention of the Parliament to confine the scope of the proviso only to the professions such as medicine, law, engineering or accountancy. A large number of occupations that are being practised and which form a source of livelihood are capable of being regarded as profession as long as they require a degree of skill. In a nutshell, a person having skill, experience and competence in the line of work in which he is engaged, could be regarded as professionally qualified.

So remuneration which is solely attributable to the application of technical or professional knowledge and experience of the spouse will not be clubbed. Some of the examples and case are given below.

Examples and cases related thereto clubbing of income.

The husband was rendering services on the basis of his long experience as manager of press and the business was largely dependent on his capability. Salary was paid to husband of the wife (assessee) for working as a manager of printing press business of a firm wherein assessee was a partner. But Salary will not clubbed in wife’s income because husband has experience and knowledge about that business although he has not any degree regarding the business.

However, the Court has also observed that a person can be said to be in possession of requisite technical qualification when by virtue thereof, he is eligible to perform that function; and that qualification must mean qualification which is necessary for carrying on the particular profession. It was also explained that if the job is of a technical nature requiring a degree or diploma, possession of such degree or diploma would be essential; and in the case of professional qualification it varies from profession to profession.

The salary and other such income is to be clubbed in the hands of spouse as per clause (ii) of section 64(1) of the Act. The question that arises is as to in whose hands such income is to be clubbed. Whether it is to be clubbed in the hands of the spouse receiving the income in the nature of salary, commission etc. or in the hands of the spouse having substantial interest in the concern making such payment? As per Explanation 1 to section 64(1), clubbing shall be made in the hands of that spouse whose total income (excluding the income which is to be clubbed) is greater. Further, once the income has been clubbed in the hands of one spouse in one assessment year, the same income arising in all the subsequent years has to be clubbed in the hands of that spouse only. That would mean that the criteria of higher income is not to be applied in all the years to find out answer to the question as to in whose hands the income is to be clubbed. However, if in any of the subsequent year, if the assessing officer is satisfied that ‘it is necessary to do so’, he may club the income in the hands of other spouse after giving an opportunity to the assessee. The question arises as to what constitutes ‘necessary to do so’. In this connection, the decision of the Tribunal in Viswanath S. Sapre vs. First ITO [3 ITD 520 (Bom)] may be taken note of. In this decision, following an earlier order of the Tribunal, it is stated that ‘once the Department has fixed one spouse as the subject matter of clubbing they should not change the person unless substantial reasons such as tax evasion, deliberate concealment etc. warrant it.’
Clubbing of income in respect of income from assets transferred to spouse
The income from asset shall be deemed to be the income of the taxpayer who has transferred the asset according to the following conditions.
The taxpayer is an individual
The asset is transferred to his/her spouse.
The transfer may be direct or indirect
He/she has transferred an asset (Other than a house property)
The asset is transferred otherwise than (a) for adequate consideration, or (b) in connection with an agreement to live apart.
Conditions When Clubbing of income is not attracted :

1) Income arising from accretions to transferred assets
For instance, Mr Sharma invests Rs 10 lakh in a fixed deposit (FD) at a bank, in his wife’s name.
Now Interest income on FD will be clubbed with his (Mr. Sharma) income.
Investment made by Mrs. Sharma out of such Interest income will be taxed on her own income.
Where the assesse transferred a flat to his spouse, and the spouse inversted the rental income in fexed deposits, thre rental income alone is clubbed in the hands of the assessee, while the interest income from the fixed deposit is clubbed in the hands of the spouse only.

2) If property is acquired by the spouse out of pin money
Example: An allowance give to the wife by her husband for her livelihood and other household expenses.

3) When assets are transferred before marriage.

Meaning of substantial Interest :
If a concern is a company where 20% shares are beneficially held by an individual along with his relatives any time during the previous year.
In other cases, where the individual alongwith his relative is entitled to receive 20% of the profit of such concern, at any time during the previous year.