If you already know about taxation policies for non-residents. Then, you must go through PE and BC controversies under tax treaty. Read on to get informed.
In the last three papers, we have discussed taxability of Non-Residents in India as per Indian Income tax Act and the relief available under tax treaties on doubly taxation services income and controversies relating to residential status of the tax payers. In the present paper, we shall discuss issues Controversies on Business Connection (BC) or Permanent Establishment (PE).
A cross border tax services for non-resident/foreign enterprises can do business with India under the following three ways:
1. Supply goods or services directly from home Country to the source Country.
2. Establish own place of business in the source Country.
3. Set up a subsidiary or joint venture company in the source Country
As per Indian Income tax Act, Non-resident is liable to tax in India on all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India, or through the transfer of a capital asset situated in India.
Business connection shall include any business activity carried on through any person who, acting on behalf of Non-Resident in India. Here are some of the controversies on Business Connection (BC) or Permanent Establishment (PE):
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Business Connection as used in Indian Income Tax Act is quite a wider term to be understood as ‘economic presence’ while Permanent establishment as used in tax treaties is arise from the negotiations with different Countries is restricted in scope and broadly based on ‘physical presence’. Notwithstanding that Indian tax laws recently included the term ‘Significant Economic Presence’ in the scope of business connection to include in its ambit all e-Commence and Digital transactions done by Indian customers on non-resident digital platform, but in the absence of any amendment in scope of permanent establishment in tax treaties, its execution is far-fetched reality.
Specific inclusions are viz. fixed place of business at the disposal of the tax payer and business, whether wholly or partially, must be carried out from that place any time during the year under consideration, it may include a place of management, a branch, an office, a factory, a workshop or a mine, an oil or gas well etc. (Inclusion of virtual presence is a bone of contention between local tax laws and tax treaties like cloud server, data centers, satellite transponders). An voluminous information is being available arising out of model commentaries, judicial pronouncements and discussions on international platforms, but in this highly technological environment, due share tax has to be allocated to the Country of Market/source and accordingly the concept of ‘fixed place of business’ as PE will evolving.
Specific exclusions are viz. some activities in the nature of ‘preparatory or auxiliary’ being precursor to the main business activities such as fixed place used solely for storage, display or delivery of goods or purchasing goods or collecting information or processing of goods etc. by the tax payer, when conducted from that fixed place has been specially excluded from the ambit of BE/PE both under tax laws and tax treaties, the scope of exclusion may vary amongst treaties due the sovereign negotiating powers of the Countries. However, these exclusions are being very often abused by tax payers due to technological developments, therefore BEPS Action Plan addressed these issues under Article-13 of MLI (Artificial Avoidance of PE status through specific activity exemptions) and framing of anti-fragmentation rules.
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Though under Indian tax laws, the business connections has been defined very broadly to cover all probable cases of business nexus which any cross border transaction can be think of as these laws being primary source of levy tax on income i.e. if the levy fails at this stage, the tax treaty will in no circumstances can revive the levy. India while negotiating tax treaties based on the economic interest entered into all treaties which may vary in scope of permanent establishments in teach treaty. Many type of permanents establishments has been evolved out of these negotiations and incorporated in tax treaties with various Countries such as Installation/construction PE, dependent agent PE, service PE, subsidiary PE etc. based on the scope of activities and time spent in executing there activities in the source Countries even irrespective of existence of fixed place of business of the tax payer in the source Country.
Initially, any installation/ construction activities of foreign enterprises undertaking in source Countries was not included the definition of PE due to its inherent impermanent nature. Now with the decay of influence of developed Countries in the international tax arena, this concepts has been included in PE definition of most of Indian tax treaties based on the period of the project varies from 6 months to two years.
Where a person who is acting on behalf of foreign enterprises in the source Country who habitually concludes contracts, or habitually plays the principal role leading to the conclusion of contracts in the name of foreign enterprises, or for transfer of ownership of or for granting of right to use any property of the enterprise or for the provision of services by that enterprise. However, if that person act as independent agent shall be excluded from agency PE.
When services are being rendered by the foreign enterprises over a period of time in the source country, then irrespective of a fixed presence this may lead to the presence of Service PE in the source Country. Depending upon the period of stay in the source Country of the representative of foreign enterprises, the Service PE clause has been incorporated in various Indian tax treaties.
Initially, existence of the subsidiary of the foreign enterprises was considered as PE in the source Country. When this practice is considered as hindrance for cross border trade, now in most of the tax treaties, mere existence of the subsidiary of the foreign enterprises is not considered as PE in the source Country unless it fulfills other criteria of the PE.
To conclude, we need an eagle eye and analytical mind to differentiate and determine the existence of business connection/permanent establishments based on this business income of the Non-Residents can be determined to be taxed in the Country of Source/Country of Market/Country of Consumption. This concept is undergoing a revolutionary change due to revolution in the way of doing business due the tremendous development in technology. Now the time has come when the Country of Source/Country of Market/Country of Consumption will get their due share on tax from digital/border independent transactions as presently most of the existence concepts has lost its relevance.
(Disclaimer: This content is meant for our clients or professional friends only for stimulating discussion on the subject matter not to frame any commercial opinion. All efforts are made to compile correctly with no guarantee of extreme accuracy)
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