A COMPREHENSIVE STUDY ON FTS UNDER TAX TREATY

Fee for Technical Services (FTS) – Under Tax Treaty

Abbreviations used:

FTS: Fee for Technical Services

ITA: Indian Income Tax Act

OECD: Organization for Economic Co-operation and Development

UN: United Nations

The tax liability as determined under the Act may undergo change by application of the provisions of the treaties. In such a scenario, whichever provision (as per the Act or per the Treaty) is beneficial to the non-resident would prevail. Section -90 (2) of ITA provides beneficial position to the non-residents EXCEPT in case of applicability of GAAR as stated in Section-90(2A) of ITA.

Broadly, treaty negotiations is a tug of war between resident Country and Source Country to share taxing rights on the income from a particular transaction as resident Country has be give tax credit to the tax payer of the taxes paid in source Country. The source country always try to have as wide coverage as possible of FTS, conversely the resident Country will try to restrict the coverage as much as possible.

Both the Model Conventions, OECD and UN has provided Article relating to Royalty but no separate Article of FTS. In 2017, UN MC has included separated article on FTS thereby recognizing the right of source states on FTS. Even then India has negotiated its treaties most favourably to include separate FTS Article on most of its taxation services treaties exist as on date.

We can face three situations while dealing with FTS under tax treaties:

1) No FTS Article in Tax treaties; or

2) Specific FTS Article in Tax treaties; or

3) Combined Article in tax treaties both for Royalty and FTS.

 Therefore, FTS article of each tax treaty needs to be examined to ascertain whether a particular payment is FTS or not.

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No FTS Article In Tax Treaties

Treaties not having FTS clause (UAE, Thailand, Brazil, Greece). There may be four options in this situation:

• Taxable under Business Income Artcle-7 of tax treaties, if PE of the recipient in source country; or
• Taxable under Article Independent Personal Services in tax treaties; or
• Taxable under Article on ‘Other Income’ in tax treaties.
• Taxable as FTS under ITA.

In our opinion based on the majority of judicial views, taxability under ITA in the presence in tax treaty is rare to apply. Based on the facts of each case, we can opt for any of the first three options.

Specific FTS Article In Tax Treaties

The tax treaties having separate FTS Article will in most of the cases will restrict the scope of FTS as stated in ITA. The following situations may arise based on tax treaties India has entered into:

• Specific Exclusions of certain activities under FTS (Example: Indian DTAA with Israel, Netherlands, Singapore, US, UK). The exclusions are mainly related to specific businesses like ship, aircraft etc. having special provision elsewhere, personal services, educational services and service as employee.
• Treaty not having the word ‘Managerial’ in the definition. (Indian treaty with UK, Australia, Canada, Singapore, Netherlands). The term ‘Managerial’ is a much wider term ‘consultancy’ and more related to personal skill, therefore, treaties not having the word ‘Managerial’ has restricted meaning of FTS.
• Treaty providing ‘Make Available’ Clause.(USA, UK, Canada, Singapore, Netherlands). The taxability of the receipt of a non-resident often depends on its categorization. The concept of ‘make available’ is also important in respect of such services in the context of treaties with certain countries which restrict meaning of FTS to a great extent.
  According to the memorandum of understanding (MOU) to the India-US tax treaty, technology is “made available” when the service recipient is enabled to apply the technology. The MOU provides illustrations. For instance, a US resident (X) “makes available” technical knowledge, skill, etc. to an Indian resident (Y), when X sends its experts to India to show Y’s engineers how to produce an extra strong wall board, or when X modifies Y’s formulas pertaining to oil refining process, to eliminate cholesterol in refined oil and trains Y’s employees in applying these new formulas.
  
• Services rendered outside India not taxable (Example: Finland). This is unusual where tax treaty restrict the scope of FTS based on the rendering of services. According to this, source Country can get the taxing right on FTS when it is rendered in its jurisdiction.
  
• Fee for Included Services (FIS) instead of (FTS) Example. Indian treaty with USA, Canada). This concept first came into being in the treaty with the USA (the term is not present in the US draft treaty). The concept of Fees for Included Services (FIS) is narrower than the concept of FTS. In many other Indian Treaties which have been signed after the US treaty, the terms FIS is not found in letter.

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Combined Article In Tax Treaties Both For Royalty And FTS

Almost in all tax jurisdictions FTS is not separately defined. Even the model tax conventions there was no separate Article for FTS till 2017 when UN conventions for the first time included Article 12A in UN MC for the FTS. As a developing Country India, is following the concept of FTS since 1976 and also negotiated to include FTS clause in most of its Tax Treaties since then. However, it does not make much difference to have combined Article for FTS as long as scope is defined clearly.

 To conclude, FTS is a concepts is evolved from India to enhance the taxing rights as a source Country. This concept provides taxing rights to the source country even without the permanent establishment or fixed place of business of the service provider in the source country. In fast changing business dynamics, the payer has to take extremely cautious approach keeping in view of his liability as representative assesse in case of any depute.

 (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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