India: Salary Paid In India To An Employee Deputed Overseas Not Taxable In India

Last Updated: 15 February 2018
Article by SKP  

Recently, in the case of Texas Instruments (India) Pvt Ltd1, the Authority for Advance Rulings (AAR) held that salary paid in India to a non-resident employee deputed overseas would not be taxable in India.

The AAR also held that in the case of resident taxpayers, a credit of foreign taxes is required to be granted while computing the withholding tax liability with respect to their Indian salary.

Facts

  • The taxpayer is an Indian company that sent one of its employees (Mr T) to the US for a period of two years, during which, his payroll was with the group entity in the US (US Entity).
  • During his tenure in the US, Mr T received his base salary and certain allowances in the US to meet his costs. Mr T also received part of his salary and certain bonuses in India to meet certain obligations in India. However, all services were rendered in the US.
  • Mr T was a non-resident in India for Financial Year (FY) 2011-12. However, for FY 2012-13, he was a resident in India.
  • Mr T would be required to file returns in the US as a resident for FY 2010-11 and 2011-12. Furthermore, his entire salary would be liable to tax in the US as the related services were rendered in the US.

Issues involved

  • Salary paid to Mr T is not liable to tax in India for FY 2011-12 according to the provisions of the Indian Income Tax Act as well as the Tax Treaty. In such a case, whether the taxpayer is required to withhold taxes on salary paid to Mr T in India.
  • Whether the taxpayer can grant credit of taxes paid in the US to Mr T while computing withholding taxes in India for FY 2012-13.

Taxpayer's contentions

Applicability of withholding tax provisions

  • The scope of total income in the case of a non-resident covers income which is received/deemed to be received in India or income which is accrued/deemed to be accrued in India. However, as per the provisions of Section 5(2) of the Income Tax Act (the Act), the same is subject to other provisions of the Act. Thus, various reliefs and benefits including treaty relief would be required to be considered while computing the total income.
  • Given the fact that the taxpayer was entitled to adopt the beneficial provisions of the Tax Treaty, it was argued that as per Article 162 of the India-USA Tax Treaty, salary shall be taxable only in the US as the employment was not at all exercised in India. In this regard, the taxpayer relied on the decision of the Karnataka High Court in the case of DIT vs Prahlad Vijendra Rao3.
  • As per the Indian tax laws, the employer is required to withhold taxes on salary only if the same is chargeable to tax in India. Since the salary was not chargeable to tax in India, the applicant was not required to withhold taxes on the salary paid to Mr T for FY 2011-12. The taxpayer relied on various judicial precedents4 in this context.
  • The taxpayer, while countering the claim of the Revenue, argued that the term 'rendered in India' was to be understood in terms of the physical presence of Mr T while rendering services. Simply because salary was paid in India by the taxpayer, it cannot be inferred that the said income was earned in India. In this regard, the taxpayer relied on Section 9(1)(ii) of the Act which provides that the salary earned from rendering services in India would be considered as income accrued/deemed to be accrued in India. The taxpayer also relied on the OECD5 commentary which states that the 'place of exercise of employment' is to be determined basis the place where services are rendered (i.e. place of physical presence).
  • Accordingly, it was argued that since the income was not taxable in India, there was no requirement of withholding of taxes.

Availability of FTC on taxes paid in the US

  • During FY 2012-13, Mr T was a resident in India and accordingly, his income would be taxable in India as well as the US. As per the provisions6 of the Tax Treaty, Mr T would be eligible to claim credit in India for taxes paid in the US
  • As per the provisions of the Act7, an employee working with more than one employer can furnish details of his previous employer's salary, taxes deducted, etc. which is required to be considered by his present employer while computing his withholding taxes. Accordingly, based on these provisions, the taxpayer was required to grant credit of foreign taxes paid while computing the withholding tax on salary to be paid to Mr T for FY 2012-13.
  • The taxpayer also contended that Section 90 of the Act is a beneficial provision and should be interpreted in such a manner that the taxpayer can avail relief. Further, it was also argued that the purpose of withholding tax provisions, with respect to salary, is to ensure that taxes are withheld only to the extent of actual tax liability. Thus, it was submitted that credit for taxes paid in the US was required to be considered at the time of withholding taxes on salary paid to Mr T for FY 2012-13.

Revenue's contentions

Applicability of withholding tax provisions

  • The Revenue contended that as per the provisions of Section 5(2) of the Act, any income received in India is liable to tax in India. Accordingly, the payment of salary made in India by the taxpayer for an employee outside India is also liable to be taxed in India. Furthermore, it was also argued that the reference made by the taxpayer (to Section 15 of the Act) may not be applicable in this case as the section only talks about 'accrual' and 'payment' in a particular financial year but not the place of accrual or payment.
  • In respect of accrual of income, the Revenue argued that since the employer-employee relationship existed between the taxpayer and Mr T, the salary was accrued in India. It also argued that since the employer is in India, services are considered to be rendered in India. Based on the same, the Revenue argued that employment was considered to be exercised in India and hence taxable under Article 168 of the Tax Treaty. Physical presence or the location where services are rendered is irrelevant.

Availability of FTC on taxes paid in the US

  • The Revenue Authorities agreed that the tax credit would be available to the taxpayer as per Article 25 of India-USA Tax Treaty. However, they argued that in order to grant tax credit, it has to be ensured that certain conditions are satisfied like taxes are actually paid, taxes are attributable to the income in the USA, eligibility of claiming tax treaty benefit, etc.
  • Accordingly, it was argued that granting of tax credit requires the interpretation of the Tax Treaty and since the taxpayer does not have the required expertise, nor the opportunity to verify these facts, the credit cannot be granted without verification by the tax officer.

Ruling of the AAR

Applicability of withholding tax provisions

  • It was held that Section 5 provides for scope of total income. As per Section 5(2) (applicable to non-residents), the total income has to be computed subject to the provisions of the Act. Accordingly, it was held that Section 5(2) alone cannot be considered as the charging section and the same has to be read along with the other provisions of the Act. Thus, the chargeability of salaries has to be determined as per Section 5(2) read with Section 15 (i.e. salary) of the Act.
  • Section 15 provides for taxing 'any salary due from the employer'. In the present case, since the services are rendered in the US, the income is not accrued in India and hence, not chargeable to tax in India. The AAR relied on the decision of Prahlad Vijendra Rao3 wherein it was held that services rendered outside India does not accrue in India. It also relied on the decisions of Avtar Singh Wadhwan and Utanka Roy vs DIT9 wherein it was held that a relevant test to be applied to decide accrual of income is to find out where the services are rendered. It was also held that whether or not the employer was Indian was immaterial.
  • Furthermore, it was also held that Section 9(1)(ii) also clarifies that the place where services are rendered has to be considered to determine the place of accrual of income.
  • The AAR also held that Section 5(2) is subject to other provisions of the Act and hence, provisions of Section 90 (allowing tax treaty benefits) would have to be considered. Accordingly, it was held that as per the provisions of Article 168 of the Treaty, it was clear that the income earned by Mr T would be chargeable to tax in the US and not in India since services were rendered in the US alone.
  • Accordingly, it was held that since there was no obligation to pay tax under the head salaries, the obligation to withhold tax on the same does not arise at all.

Availability of FTC on taxes paid in the US

  • The AAR held that the case was clearly covered under the provisions of Article 25 of the Tax Treaty and thus, the credit for taxes paid in the US was available.
  • The AAR relied on the provisions of Section 192(2) of the Act, which provides that in the case of multiple employment, the present employer can consider the taxes paid by the previous employer while computing the withholding tax liability.
  • With regard to the Revenue's argument on proper verification before granting tax credit, the AAR held that in absence of any other provisions, recourse can only be made to provisions of Section 192(2) of the Act. Section 192(2) casts an obligation on employees to provide appropriate details with respect to salary received, taxes paid, etc. and the employer would have to consider the same before granting tax credit. It is assumed that the taxpayer would carry out the appropriate due-diligence while granting tax credit.
  • The AAR also admitted that in an event where the Revenue believes that the taxpayer failed in carrying out its duty of verifying the relevant details as mentioned above, the Revenue can take appropriate action as per the provisions of the Act.

Footnotes

1 AAR No. 1299 of 2012

2 Dependent Personnel Services Article

3 ITA No. 838/2009

4 British Gas India Private Limited AAR/725/2006; CIT vs Coromandal Fertilisers Ltd, [1991],187 ITR 673 (AP)

5 The Organisation for Economic Co-operation and Development (OECD)

6 Article 25 of India-USA Tax Treaty

7 Section 192(2) of the Income-tax Act, 1961

8 Deals with 'Dependent Personal Services'

9 (2016) 390 ITR 109

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