One of the most common questions in an international transaction is the tax liability of the non-resident on the income proposed to be generated in India on provision of managerial, technical or consultancy services in India. In this article, we will be addressing the issue faced vis-à-vis a withholding tax implication on payments made to foreign collaborators for provision of technical services.
As per Section 9(1)(vii), income by way of 'fees for technical services' payable by a person who is a resident of India is deemed to accrue or arise in India (except where the fees are payable in respect of services utilized in a business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India).
"Fees for technical services" ("FTS") means any consideration (including any lump sum consideration) for the rendering of any managerial, technical or consultancy services (including the provision of services of technical or other personnel) but does not include consideration for any construction, assembly, mining or like project undertaken by the recipient or consideration which would be income of the recipient chargeable under the head "Salaries".
Therefore, if technical services are of a nature that can be classified as managerial, technical or consultancy services, then the services fee payable to the foreign collaborator, for provision of the technical services, can be considered as income by way of FTS under the Income Act, 1961 ("IT Act") which is taxable in India, thereby requiring the payer to deduct tax under the IT Act.
The aforesaid FTS (which is taxable under the IT Act) are ordinarily subject to TDS @ 10% (plus surcharge and cess, as may be applicable) in terms of the IT Act. However, where payments are received by a non-resident who is entitled to the benefits of the double taxation avoidance agreement ("DTAA"), the non-resident is entitled to claim the benefit of the more beneficial provisions and rates between the IT Act and the DTAA between India and the country of residence of such non-resident.
For instance, let's consider the India-UK DTAA. In terms of Article 13(2) of the India-UK DTTA, 'fees for technical services' may arising in India and paid to a UK resident can be taxed in India according to the laws of India, provided the tax charged does not exceed 15%1 of the gross amount of such FTS.
As per Article 13(4) of the India-UK DTAA, the term "fees for technical services" is defined to mean "payments of any kind of any person in consideration for the rendering of any technical or consultancy services (including the provision of services of a technical or other personnel) which :
(a) are ancillary and subsidiary to the application or enjoyment of the right, property or information for which a payment described in paragraph 3(a) of this article is received ; or
(b) are ancillary and subsidiary to the enjoyment of the property for which a payment described in paragraph 3(b) of this Article is received; or
(c) make available technical knowledge, experience, skill know-how or processes, or consist of the development and transfer of a technical plan or technical design.
However, the definition of FTS does not include amounts paid "(a) for services that are ancillary and subsidiary, as well as inextricably and essentially linked, to the sale of property, other than property described in paragraph 3(a) of this Article; (b) for services that are ancillary and subsidiary to the rental of ships, aircraft, containers or other equipment used in connection with the operation of ships, or aircraft in international traffic; (c) for teaching in or by educational institutions; (d) for services for the private use of the individual or individuals making the payment ; or (e) to an employee of the person making the payments or to any individual or partnership for professional services as defined in Article 15 (Independent personal services) of this Convention."
Interestingly, the definition of FTS under the India-UK DTAA is narrower than the definition of FTS under the IT Act. For instance, managerial services are excluded from the definition of FTS under the India-UK DTAA while they are included within the FTS definition under the IT Act. Further, even technical and consultancy services will only be covered under Article 13(4) of the India-UK DTAA, if they 'make available' to the service recipient technical knowledge experience, skill know-how or processes. We refer here to a 2016 ruling of the Authority for Advance Rulings ("AAR") in the case of In Re: Cummins Limited2, where AAR as regards taxability of certain management service as FTS in the context of India-UK DTAA observed as under:
"As regards taxability of the Supply Management Services fees as FTS, it is important to see whether the services provided under the agreement would lead to imparting of any technical knowledge and expertise to the Indian company, i.e., whether the applicant is making available any technical knowledge, experience, skill know-how or processes to the Indian company..... The applicant is not imparting its technical knowledge and expertise to the Indian company based on which the Indian company will acquire such skills and will be able to make use of it in future. Therefore, the 'make available' clause under India-UK Treaty is not satisfied."
The AAR also referred to the decision of Karnataka High Court (dated March 15, 2012) in the case of Commissioner of Income Tax versus De Beers India Limited, to further clarify the meaning of 'make available', where the High Court held as under:
"What is the meaning of "make available'..... The service should be aimed at and result in transmitting technical knowledge, etc., so that the payer of the service could derive an enduring benefit and utilize the knowledge or know-how on his own in future without the aid of the service provider. In other words, to fit into the terminology "making available", the technical knowledge, skill, etc., must remain with the person receiving the services even after the particular contract comes to an end.....Technology will be considered "made available" when the person acquiring the service is enabled to apply the technology."
Therefore, a detailed assessment of the exact nature, modalities and scope of technical services is essential to assess whether services are in the nature of technical or consultancy services so as to classify as FTS under the India-UKDTAA, and be subject to TDS @ 10% (plus surcharge and cess, as may be applicable) under the IT Act (which is the more beneficial rate of tax).
In case the technical services are such that they do not fall under the aforesaid definition of technical services then payments for such services may not qualify as FTS under the India-UK DTAA. In such a case, the foreign collaborator can claim that the technical services fees not covered under FTS will be considered as business profits under Article 7 of the India-UK DTAA3, and (assuming the foreign collaborator does not have a business connection or permanent establishment in India), cannot be considered as its income chargeable to tax in India, and consequently the payer (being the Indian resident) is not required to deduct TDS therefrom.
1 The maximum tax rate has been specified as 10% in case the FTS is ancillary and subsidiary to the enjoyment of the property for which a payment described in paragraph 3(b) of Article 13 of India-UK DTAA (i.e. royalty payments of any kind received as consideration for the use of, or the right to use, any industrial, commercial or scientific equipment).
2 (2016)283C TR(AAR)241.
3 As per Article 7 of the India-UK DTAA, profits of an enterprise of a Contracting State are taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise
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