Formula One World Championship Limited vs. CIT (Supreme Court)
April, 29th 2017
Article 5 India-UK DTAA: Entire law on what constitutes a "permanent establishment" in the context of the 'Formula One Grand Prix of India' event explained after extensive reference to case laws, OECD Model Convention and commentary by Philip Baker, Klaus Vogel and other experts
Formula One World Championship Limited (‘FOWC’) and Jaypee Sports International Limited (‘Jaypee’) filed applications before the Authority for Advance Ruling (AAR). FOWC had entered into a ‘Race Promotion Contract’ (RPC) dated September 13, 2011 with Jaypee, granting Jaypee the right to host, stage and promote the Formula One Grand Prix of India event for a consideration of US$ 40 million. Some other agreements were also entered into between FOWC and Jaypee as well as group companies of FOWC and Jaypee. In the applications filed by FOWC and Jaypee before the AAR, advance ruling of AAR was solicited on two main questions/queries:
(i) whether the payment of consideration receivable by FOWC in terms of the said RPC from Jaypee was or was not royalty as defined in Article 13 of the ‘Double Taxation Avoidance Agreement’ (DTAA) entered into between the Government of United Kingdom and the Republic of India?; and
(ii) whether FOWC was having any ‘Permanent Establishment’ (PE) in India in terms of Article 5 of DTAA?
(iii) whether any part of the consideration received or receivable by FOWC from Jaypee outside India was subject to tax at source under Section 195 of the Indian Income Tax Act, 1961 (hereinafter after referred to as the ‘Act’).
The AAR answered the first question holding that the consideration paid or payable by Jaypee to FOWC amounted to ‘Royalty’ under the DTAA. Second question was answered in favour of FOWC holding that it did not have any PE in India. As far as the question of subjecting the payments to tax at source under Section 195 of the Act is concerned, AAR ruled that since the amount received/receivable by FOWC was income in the nature of Royalty and it was liable to pay tax there on to the Income Tax Department in India, it was incumbent upon Jaypee to deduct the tax at source on the payments made to FOWC. FOWC and Jaypee challenged the ruling on the first issue by filing writ petitions in the High Court contending that the payment would not constitute Royalty under Article 13 of the DTAA. Revenue also filed the writ petition challenging the answer of the AAR on the second issue by taking the stand that FOWC had PE in India in terms of Article 5 of the DTAA and, therefore, tax was payable accordingly.
The High Court reversed the findings of the AAR on both the issues. Whereas it has held that the amount paid/payable under RPC by Jaypee to FOWC would not be treated as Royalty, as per the High Court FOWC had the PE in India and, therefore, taxable in India. While deciding this question, the High Court has not accepted the plea of the Revenue that it was not a dependent PE. The High Court has also held, as the sequitur, that Jaypee is bound to make appropriate deductions from the amount payable to FOWC under Section 195 of the Act.
All three parties filed appeals before the Supreme Court. As per FOWC and Jaypee, no tax is payable in India on the consideration paid under RPC as it is neither Royalty nor FOWC has any PE in India. It is pertinent to mention that the Revenue has not challenged the findings of the High Court that the amount paid under RPC does not constitute royalty. Therefore, that aspect of the matter has attained finality. The main question in the appeals therefore pertained to PE. HELD by the Supreme Court:
(i) It is an undisputed fact that Article 5 of DTAA between India and the United Kingdom follows the Organisation for Economic Cooperation and Development’s (OECD) Model of Double Taxation Convention. There are various commentaries on Double Taxation Conventions. Celebrated among those are:
“A Manual on the OECD Model Tax Convention on Income and on Capital” by Philip Baker Q.C., and Klaus Vogel on “Double Taxation Conventions”.
OECD has also given its ‘condensed version’ on “Model Tax Convention on Income and on Capital”. What constitutes PE under various circumstances has also been the subject matter of judicial verdicts in India as well as in other countries. For better understanding of what may constitute a PE, it would be imperative to refer to these commentaries and judicial decisions. This discussion would disclose the principles enunciated to determine the existence of a PE, application whereof to the given facts would facilitate in answering the surging debate.
(ii) Philip Baker explains that the concept of PE is important for several Articles of the Conventions; the concept, or its cognate, also appears in the domestic law of some countries. According to him, the concept marks the dividing line for businesses between merely trading with a country and trading in that country; if an enterprise has a PE, its presence in a country is sufficiently substantial that it is trading in the country. He has quoted the following passage from the judgment of the Andhra Pradesh High Court, authored by Justice (Retd.) Jagannadha Rao (as His Lordship’s then was, later Judge of this Court) in Commissioner of Income Tax, A.P.-I v. Visakhapatnam Port Trust1:
“The words ‘permanent establishment’ postulate the existence of a substantial element of an enduring or permanent nature of a foreign enterprise in another country which can be attributed to a fixed place of business in that country. It should be of such a nature that it would amount to a virtual projection of the foreign enterprise of one country into the soil of another country.”
(iii) Emphasizing that as a creature of international tax law, the concept of PE has a particularly strong claim to a uniform international meaning, Philip (1983) 144 ITR 146 Page 29 Baker discerns two types of PEs contemplated under Article 5 of OECD Model. First, an establishment which is part of the same enterprise under common ownership and control – an office, branch, etc., to which he gives his own description as an ‘associated permanent establishment’. The second type is an agent, though legally separate from the enterprise, nevertheless who is dependent on the enterprise to the point of forming a PE. Such PE is given the nomenclature of ‘unassociated permanent establishment’ by Baker. He, however, pointed out that there is a possibility of a third type of PE, i.e. a construction or installation site may be regarded as PE under certain circumstances. In the first type of PE, i.e. associated permanent establishments, primary requirement is that there must be a fixed place of business through which the business of an enterprise is wholly or partly carried on. It entails two requirements which need to be fulfilled:
(a) there must be a business of an enterprise of a Contracting State (FOWC in the instant case); and
(b) PE must be a fixed place of business, i.e. a place which is at the disposal of the enterprise. It is universally accepted that for ascertaining whether there is a fixed place or not, PE must have three characteristics: stability, productivity and dependence. Further, fixed place of business connotes existence of a physical location which is at the disposal of the enterprise through which the business is carried on.
(iv) Some of the examples of fixed place of business given by Baker are the following: The place of business must be fixed and permanent. Thus, a shed which had been rented for thirteen years for storing and preparing hides was held to constitute a PE2. Similarly, a writer’s study has been held to constitute a PE3. A stand at a trade fair, occupied regularly for three weeks a year, through which the enterprise obtained contracts for a significant part of its annual sales, has also been held to constitute a PE4. A temporary restaurant operated in a mirror tent at a Dutch flower show for a period of seven months was held to constitute a PE5. An office, Transvaal Associated Hide & Skin Merchants (Pty) Ltd. (1967) 29 S.A.T.C. 97 (Court of Appeal, Botswana). Georges Simenon (1965) 44 T.C. (US) 820 (US Tax Court) Joseph Fowler v. M.N.R. (1990) 90 D.T.C. 1834; (1990) 2 C.T.C. 2351 (Tax Court of Canada) Antwerp Court of Appeal, decision of February 6, 2001, noted in 2001 WTD 106-11 workshop and storeroom for the maintenance of aircraft, which were leased out by the enterprise, has been held to constitute a PE6.
(v) On the other hand, possession of a mailing address in a state – without an office, telephone listing or bank account – has been held not to constitute a PE7. The mere supply of skilled labour to work in a country did not give rise to a PE of the company supplying the labour8. A drilling rig which, although anchored while in operation, was moved to a new site every few months, has been held not to constitute a PE9. Similarly, a remotely operated vessel which was used to inspect and repair submarine pipelines was held not to constitute a PE because a moving vessel is not a fixed place of business10.
(vi) The principal test, in order to ascertain as to whether an establishment has a fixed place of business or not, is that such physically located premises have to be ‘at the disposal’ of the enterprise. For this purpose, it is not necessary that the premises are owned or even rented by the enterprise. It will be sufficient if the premises are put at the disposal of the enterprise. However, merely giving access to such a place to the enterprise for the purposes of the project would not suffice. The place would be treated as ‘at the disposal’ of the enterprise when the enterprise has right to use the said place and has control thereupon. OECD commentary on Model Tax Convention mentions that a general definition of the term ‘PE’ brings out its essential characteristics, i.e. a distinct “situs”, a “fixed place of business”. This definition, therefore, contains the following conditions: – the existence of a “place of business”, i.e. a facility such as premises or, in certain instances, machinery or equipment. – this place of business must be “fixed”, i.e. it must be established at a distinct place with a certain degree of permanence; – the carrying on of the business of the enterprise through this fixed place of business. This means usually that persons who, in one way or another, are dependent on the enterprise (personnel) conduct the business of the enterprise in the State in which the fixed place is situated.
(vii) The term “place of business” is explained as covering any premises, facilities or installations used for carrying on the business of the enterprise whether or not they are used exclusively for that purpose. It is clarified that a place of business may also exist where no premises are available or required for carrying on the business of the enterprise and it simply has a certain amount of space at its disposal. Further, it is immaterial whether the premises, facilities or installations are owned or rented by or are otherwise at the disposal of the enterprise. A certain amount of space at the disposal of the enterprise which is used for business activities is sufficient to constitute a place of business. No formal legal right to use that place is required. Thus, where an enterprise illegally occupies a certain location where it carries on its business, that would also constitute a PE. Some of the examples where premises are treated at the disposal of the enterprise and, therefore, constitute PE are: a place of business may thus be constituted by a pitch in a market place, or by a certain permanently used area in a customs depot (e.g. for the storage of dutiable goods). Again the place of business may be situated in the business facilities of another enterprise. This may be the case for instance where the foreign enterprise has at its constant disposal certain premises or a part thereof owned by the other enterprise. At the same time, it is also clarified that the mere presence of an enterprise at a particular location does not necessarily mean that the location is at the disposal of that enterprise.
(viii) The OECD commentary gives as many as four examples where location will not be treated at the disposal of the enterprise. As per Article 5 of the DTAA, the PE has to be a fixed place of business ‘through’ which business of an enterprise is wholly or partly carried on. Some examples of fixed place are given in Article 5(2), by way of an inclusion. Article 5(3), on the other hand, excludes certain places which would not be treated as PE, i.e. what is mentioned in clauses (a) to (f) as the ‘negative list’. A combined reading of sub-articles (1), (2) and (3) of Article 5 would clearly show that only certain forms of establishment are excluded as mentioned in Article 5(3), which would not be PEs. Otherwise, sub-article (2) uses the word ‘include’ which means that not only the places specified therein are to be treated as PEs, the list of such PEs is not exhaustive. In order to bring any other establishment which is not specifically mentioned, the requirements laid down in sub-article (1) are to be satisfied. Twin conditions which need to be satisfied are: (i) existence of a fixed place of business; and (b) through that place business of an enterprise is wholly or partly carried out.
(ix) We are of the firm opinion, and it cannot be denied, that Buddh International Circuit is a fixed place. From this circuit different races, including the Grand Prix is conducted, which is undoubtedly an economic/business activity. The core question is as to whether this was put at the disposal of FOWC? Whether this was a fixed place of business of FOWC is the next question. We would like to start our discussion on a crucial parameter viz. the manner in which commercial rights, which are held by FOWC and its affiliates, have been exploited in the instant case. For this purpose entire arrangement between FOWC and its associates on the one hand and Jaypee on the other hand, is to be kept in mind. Various agreements cannot be looked into by isolating them from each other. Their wholesome reading would bring out the real transaction between the parties. Such an approach is essentially required to find out as to who is having real and dominant control over the Event, thereby providing an answer to the question as to whether Buddh International Circuit was at the disposal of FOWC and whether it carried out any business therefrom or not. There is an inalienable relevance of witnessing the wholesome arrangement in order to have complete picture of the relationship between FOWC and Jaypee. That would enable us to capture the real essence of FOWC’s role.
(x) A mere running of the eye over the flowchart of these commercial rights, produced by the Revenue, bring about the following material factors, evidently discernible: We are also of the opinion that the High Court has rightly concluded that having regard to the duration of the event, which was for limited days, and for the entire duration FOWC had full access through its personnel, number of days for which the access was there would not make any difference. A stand at a trade fair, occupied regularly for three weeks a year, through which an enterprise obtained contracts for a significant part of its annual sales, was held to constitute a PE23. Likewise, a temporary restaurant operated in a mirror tent at a Dutch flower show for a period of seven months was held to constitute a PE24.
(xi) The High Court has also referred to some of the judgments which are of relevance. We would like to take note of those judgments as we had agreed with the conclusions of the High Court on this issue: In Universal Furniture Ind. AB v. Government of Norway25, a Swedish company sold furniture abroad that was assembled in Sweden. It hired an individual tax Refer Footnote 4 Refer Footnote 5 (Stavanger Court, Case No. 99-00421, dated 19-12-1999 referred to in Principles of International Taxation by Anghard Miller and Lyn Oates, 2012) resident of Norway to look after its sales in Norway, including sales to a Swedish company, which used to compensate him for use of a phone and other facilities. Later, the company discontinued such payments and increased his salary. The Norwegian tax authorities said that the Swedish company had its place of business in Norway. The Norwegian court agreed, holding that the salesman’s house amounted to a place of business: it was sufficient that the Swedish Company had a place at its disposal, i.e the Norwegian individual’s home, which could be regarded as ‘fixed’. In Joseph Fowler v. Her Majesty the Queen26, the issue was whether a United States tax resident individual who used to visit and sell his wares in a camper trailer, in fairs, for a number of years had a fixed place of business in Canada. The fairs used to be once a year, approximately for three weeks each. The court observed that the nature of the individual’s business was such that he held sales in similar fares, for duration of two or three weeks, in two other locales in the United States. The court 1990 (2) CTC 2351 held that conceptually, the place was one of business, notwithstanding the short duration, because it amounted to a place of management or a branch having regard to peculiarities of the business.
(xii) Coming to the second aspect of the issue, namely, whether FOWC carried on any business and commercial activity in India or not, substantial part of this aspect has already been discussed and taken care of above. Without being repetitive and pleonastic or tautologous, we may only add that FOWC is the Commercial Right Holder (CRH). These rights can be exploited with the conduct of F-1 Championship, which is organised in various countries. It was decided to have this championship in India as well. In order to undertake conducting of such races, the first requirement is to have a track for this purpose. Then, teams are needed who would participate in the competition. Another requirement is to have the public/viewers who would be interested in witnessing such races from the places built around the track. Again, for augmenting the earnings in these events, there would be advertisements, media rights, etc. as well. It is FOWC and its affiliates which have been responsible for all the aforesaid activities. The Concorde Agreement is signed between FIA, FOA and FOWC whereby not only FOWC became Commercial Rights Holder for 100 years, this agreement further enabled participation of the teams who agreed for such participation in the FIA Championship each year for every event and undertook to participate in each event with two cars. FIA undertook to ensure that events were held and FOWC, as CRH, undertook to enter into contracts with event promoters and host such events. All possible commercial rights, including advertisement, media rights, etc. and even right to sell paddock seats, were assumed by FOWC and its associates. Thus, as a part of its business, FOWC (as well as its affiliates) undertook the aforesaid commercial activities in India. In view of the above, it is difficult to accept the arguments of the appellants that it is Jaypee who was responsible for conducting races and had complete control over the Event in question. Mere construction of the track by Jaypee at its expense will be of no consequence. Its ownership or organising other events by Jaypee is also immaterial. Our examination is limited to the conduct of the F-1 Championship and control over the track during that period. Specific arrangement between the parties relating to the aforesaid, which is elaborated above and which FOWC and Jaypee unsuccessfully endeavoured to ignore, has in fact turned the table against them. It is also difficult to accept their submission that FOWC had no role in the conduct of the Championship and its role came to an end with granting permission to host the Event as a round of the championship. We also reject the argument of the appellants that the Buddh International Circuit was not under the control and at the disposal of FOWC.
(xiii) No doubt, FOWC, as CRH of these events, is in the business of exploiting these rights, including intellectual property rights. However, these became possible, in the instant case, only with the actual conduct of these races and active participation of FOWC in the said races, with access and control over the circuit.
(xiv) We are of the opinion that the test laid down by the Andhra Pradesh High Court in Visakhapatnam Port Trust case fully stands satisfied. Not only the Buddh International Circuit is a fixed place where the commercial/economic activity of conducting F-1 Championship was carried out, one could clearly discern that it was a virtual projection of the foreign enterprise, namely, Formula-1 (i.e. FOWC) on the soil of this country. It is already noted above that as per Philip Baker27, a PE must have three characteristics: stability, productivity and dependence. All characteristics are present in this case. Fixed place of business in the form of physical location, i.e. Buddh International Circuit, was at the disposal of FOWC through which it conducted business. Aesthetics of law and taxation jurisprudence leave no doubt in our mind that taxable event has taken place in India and non-resident FOWC is liable to pay tax in India on the income it has earned on this soil.
(xv) We are now left with two other incidental issues which were raised by Mr. Datar. First was on the interpretation of Section 195 of the Act. It cannot be disputed that a person who makes the payment to a non-resident is under an obligation to deduct tax A Manual on the OECD Model Tax Convention on Income and on Capital under Section 195 of the Act on such payments. Mr. Rohatgi had submitted, and rightly so, that this issue is covered by the judgment in the case of GE India Technology Centre Private Limited28. Precisely this very judgment is taken note of and relied upon by the High Court also in holding that since payments made by Jaypee to FOWC under the RPC were business income of the FOWC through PE at the Buddh International Circuit, and, therefore, chargeable to tax, Jaypee was bound to make appropriate deductions from the amounts paid under Section 195 of the Act.
(xvi) We are, however, inclined to accept the submission of Mr. Datar that only that portion of the income of FOWC, which is attributable to the said PE, would be treated as business income of FOWC and only that part of income deduction was required to be made under Section 195 of the Act. In GE India Technology Centre Private Limited29, this Court has clarified that though there is an obligation to deduct tax, the obligation is limited to the appropriate portion of income which is chargeable to tax in India and in Refer Footnote 23 Refer Footnote 23 respect of other payments where no tax is payable, recourse is to be made under Section 195(2) of the Act. It would be for the Assessing Officer to adjudicate upon the aforesaid aspects while passing the Assessment Order, namely, how much business income of FOWC is attributable to PE in India, which is chargeable to tax. At that stage, Jaypee can also press its argument that penalty etc. be not charged as the move on the part of Jaypee in not deducting tax at source was bona fide. We make it clear that we have not expressed any opinion either way.
(xvii) Insofar as the argument of Mr. Datar on the powers of the High Court under Article 226 of the Constitution of India is concerned, we are not impressed by the said argument. It is Jaypee itself which had filed the writ petition (and for that matter FOWC as well) and they had challenged the orders of AAR on certain aspects. The High Court has examined legal issues while delivering the impugned judgment, of course having regard to the facts which were culled out from the documents on record.