Domestic and Direct Tax Updates

Notifications and Circulars

1. CBDT issues clarification on MFN clause in DTAAs:

The Central Board of Direct Taxes (CBDT) has issued the clarification regarding Most Favoured Nation (MFN) clauses in Protocol to India's Double taxation avoidance agreements ('DTAAs') with certain countries especially the European States and OECD members (The Netherlands, France, the Swiss Confederation, Sweden, Spain, and Hungary) herein after referred as First State.

MFN clause in DTAA between India and First State indicates that India shall limit its source taxation rights in relation to certain items of income (such as dividends, interest income, royalties, Fees for Technical Services, etc.) to a rate lower or a scope more restricted than the scope provided for those items of income in the India and first state DTAA since the same is restricted in 'India and Third state DTAA'. Some of the DTAAs also provides that India shall enter into negotiations with First State in case more beneficial treatment is accorded to any Third state. Availability of such beneficial taxation basis MFN clause was a matter of debate.

CBDT  has now clarified that the applicability of the MFN clause and benefit of lower rate or restricted scope of source taxation provided in 'India-Third state DTAA' will be available to the First (OECD) State  only when all the prescribed conditions are met.  The critical condition being unless a separate notification is issued, benefits from 'India-Third state DTAA' cannot be imported into a DTAA having the MFN clause.

Although the applicability of such CBDT circular is not final and can be litigated before judicial authorities, it is likely to impact tax resident of above mentioned countries mostly in relation to 'dividend income'.

[CBDT Circular No. 3/2022  dated 3 February 2022]

2. CBDT condones delay in filing of Form 10-IC for Assessment Year 2020-21 subject to conditions

Section 115BAA of the Income Tax Act, 1961 ('ITA') was inserted w.e.f. 1 April 2020, wherein option was provided to a domestic company for any previous year relevant to the assessment year beginning on or after the 1 April 2020, to compute the income tax payable in respect of total income at the concessional rate of 22 per cent, subject to satisfaction of prescribed conditions. Additionally, it had also provided that tax payer  would need to exercise such option by submitting Form 10-IC electronically on or before the due date of filing of Return of Income under section 139(1) of ITA.

There were several instances which were brought to the notice of CBDT, wherein the Form 10-IC could not be filed along with the Return of Income for Assessment Year 2020-21, which was the first year of filing of this form. This resulted in companies being denied the concessional rate while processing returns. Taking cognizance of such practical difficulties, CBDT has directed that the delay in filing of Form 10-IC for the Assessment Year 2020-21 would be condoned in cases where the following conditions are satisfied:

• Return of Income for Assessment Year 2020-21 has been filed on or before the due date;
  
• The Taxpayer has opted for taxation under section 115BAA of ITA by selecting such option in the Form of Return of Income (ITR-6); and
• Form 10-IC is filed electronically on or before 30 June 2022.

[Circular No. 6/2022 dated 17 March 2022]

3. CBDT notifies e-Advance Rulings Scheme, 2022

As per section 245R of ITA, an assessee can seek an advance ruling from the 'Authority for Advance Ruling' ('AAR') seeking clarification about taxability before entering into transactions. Vide Finance Act 2021, the AAR was revamped by introducing the 'Board of Advance Ruling' ('BAR') from the notified date and with such modification as would be notified by the Central Government. In furtherance to the same, the CBDT has now notified the 'e-advance ruling Scheme 2022'

Amongst other salient features of the e-advance ruling Scheme, 2022, permissibility of filing such application through email, option to withdraw, automated allocation of such application to BAR, option to raise additional questions, hearings via video conferencing only makes it more approachable.

At present, there are total three benches in India viz. two at Delhi and one at Mumbai.

The e-advance rulings scheme will mainly benefit in providing advance clarity to tax payers intending to undertake transactions in India.

[Notification 07/2022 dated 18 January 2022]

Domestic Tax Rulings 

1. Pune Income Tax Appellate Tribunal ('ITAT') held that recent CBDT Circular on MFN Clause contravenes Section 90(1) of ITA, hence cannot be considered as binding on ITAT or retrospective in application

Contrary to the CBDT Circular No. 3/2022  dated 3 February 2022, Pune ITAT in the case of GRI Renewable Industries S.L. [TS-79-ITAT-2022(PUN)] held that no separate notification by India is required to secure the benefit of the MFN clause under DTAA India-Spain.

While concluding above, ITAT observed that once DTAA India- Spain in in force, the Protocol to which contains the MFN clause and was signed on the same date was automatically entered into force along with DTAA.

CBDT circular specifying the need for a separate notification for importing the beneficial treatment from other DTAA under the MFN clause overlooks the plain language of the provisions of Section 90(1) of ITA  which treats the MFN clause as an integral part of DTAA.

Further it also concluded that such circular cannot be invoked for the past assessment years prior to issuance of such CBDT circular and an attempt of such application is detrimental to the taxpayer for taking benefit conferred by the DTAA.

2. Hon'ble Karnataka High Court ('HC') holds that transfer of technical know-how in slump sale cannot be equated to goodwill transfer

Slump sale is a popular form of reorganization, by which assets are transferred from one taxpayer to another. In cases other than a demerger or share transfer, an "undertaking" is transferred via slump sale. "Undertaking" for slump sale purpose is defined to include any part of an undertaking, or a unit or division of an undertaking or a business activity taken as a whole, but does not include individual assets or liabilities or any combination thereof not constituting a business activity.

In the case of ABB Ltd [TS-1165-HC-2021 (KAR)], Karnataka HC held that when the transaction of the assessee was of transfer of technical know-how, then the profit on sale of such technical know-how cannot be brought to tax as "capital gains" under section 45 of ITA. In the said case, the trademarks, copy rights and technical know-how alone were comprised in the assets of the business and not goodwill. Revenue sought to treat the consideration received on account of transfer of technical know-how by the assessee, as consideration received towards goodwill, basis that the assessee could not substantiate the expenses incurred for acquisition/development of technical know-how. In this regard, HC observed that:

• 'Goodwill' is neither equated to trademark nor technical know-how. If the assessee treated the cost/expenses relating to acquisition/improvement/development of intangible non-depreciable assets in the revenue field, the gains arising as a result of sale thereof will have to be necessarily treated in the revenue field either under section 28 or section 56 of ITA and not as capital gains.
•  Even though 'goodwill' is a self-generated asset and therefore its cost of acquisition cannot be determined, by reason of amendment to the provisions of section 55(2)(a) of ITA by Finance Act, 1987 w.e.f. 1 April 1989, the cost of acquisition of 'goodwill' is NIL and therefore it is possible to compute capital gains on transfer of goodwill [also referred Hon'ble Supreme Court of India's ruling in the case of B.C. Srinivasa Setty (1981) 5 Taxman 1/128 ITR 294 (SC)]. However such an approach cannot be adopted if the capital asset transferred is 'technical know-how'.

3. Set-off of brought forward losses cannot be denied on change of shareholding of ultimate parent company

Set-off of brought forward losses against future income is permissible subject to certain conditions.  One of such condition prescribed as per the provisions of ITA is 51 per cent of voting power beneficially held by shareholders in a year in which loss is proposed to be set off is same as that of the year in which loss is incurred.

The Delhi Tribunal in the case of WSP Consultant India Pvt. Ltd. [TS-151-ITAT-2022 (DEL)] has dismissed revenue authorities action of disallowance of set-off of brought forward losses in case of change in shareholding of ultimate parent company.

In this case, taxpayer claimed the set-off of the brought forward losses with the income of subsequent years which was denied by the tax department stating that there has been change in shareholding in the ultimate parent company who beneficially hold the shares (not less than 51 per cent) of the tax payer.

Delhi Tribunal upheld the order of the first appellate authority while allowing loss to be carried forward relying on Delhi HC ruling in the another case of Yum Restaurants India (P.) Ltd.:

• Disallowance for set-off of losses can be invoked only in case there is change in immediate shareholding of a company;
• The registered shareholder shall be beneficial owner of shares, unless such shares are held in the capacity of nominee / agent / trustee;
• In case of multiple layer group structure, the intermediate or ultimate holding company cannot be said to be holding shares in the company where the subsidiary of such intermediate holding company or ultimate holding is the shareholder.

4. Receipts from Information and technology service is not construed as Fee for Technical Services (FTS) on taking benefit of MFN clause in DTAA India – Netherlands

Delhi ITAT in the case of Perfetti Van Melle ICT & BV [TS-145-ITAT-2022 (DEL)] has granted relief to the taxpayer and held that receipts from providing information and communication technology services is not FTS as it does not satisfy make available clause by applying restrictive provision of FTS provided in the DTAA  India-Portugal on invoking MFN clause under the DTAA India Netherlands.

In this case, the company received charges for information and technology services which were held taxable by the tax department as FTS under the India – Netherlands tax treaty since the tax department construed that such services were of the nature of specialized management consultancy services and the company has made available technical knowledge, skill, know-how and process to the Indian entity.

Delhi ITAT  relied on the Mumbai ITAT ruling in the case of  SCA Hygiene Products wherein it was held that the restrictive definition for FTS as per DTAA India-Portugal applies in the DTAA India-Sweden without requiring any separate notification for application of MFN clause. Further, since no services can be performed by the Indian entity without depending on the foreign company, the make available test was not satisfied.

On the issue of taxability of the fees for SAP Software license and Microsoft licensing, Delhi ITAT followed Apex court ruling in the case of Engineering Analysis Center of Excellence Pvt. Ltd. wherein it was held that providing of software license does not create any interest or right in the hands of distributor / end user, which would amount to the use of or right to use any copyright, accordingly such software license fee shall not be regards as royalty as per DTAA India – Netherlands.

5. Pune ITAT held that Fees paid for 'using' IT Infrastructure taxable as Royalty

Pune ITAT in the case of Vanderlande Industries Private Limited [ITA No.48/PUN/2018]  held that payment made by the Taxpayer to its Holding Company in Netherlands for using the IT Infrastructure facility set up by the parent company falls within the ambit of royalty under Sect. 9(1)(vi) of ITA and also under Article 12 of  DTAA India-Netherlands.

ITAT held that the said case is not a pure reimbursement transactions as claimed by the Tax payer since the parent company has loaded the costs with the arm's length mark-up and once a mark-up is added, the case goes outside the ambit of reimbursement.

ITAT further held that Supreme Court (SC) ruling in the case of Engineering Analysis Centre of Excellence (P.) Ltd . [2021] 125 taxmann.com will not apply to this case where in access is given to group entities as part of overall Information Communication Technologies ('ICT') infrastructure. If at all it applies, it would apply in the hands of the Netherlands entity at the time of purchase of the software from third party vendors before installing them in its overall ICT Infrastructure.

ITAT concluded that the payment for the use of ICT Infrastructure maintained by the Netherlands entity, is a consideration for "the use or right to use any industrial, commercial equipment", covered under clause (iva) of Explanation 2 to section 9(1)(vi) of ITA as well as Para 4(b) of Article 12 of the DTAA thus would be taxable as Royalty under ITA as well as DTAA.