The Indian shipping industry, which was worried about the Income-Tax Departments demand for higher TDS (tax deduction at source) rate on ship rental income (that is, charter hire payments), is relieved.
Bombay HC ruling
A recent ruling (June 29) of the Bombay High Court should now settle the position and shipping companies would be saved from shelling out more by way of TDS. The issue was causing much concern for the industry as the companies were being subject to a high TDS rate of 22.66 per cent (including surcharge and cess) under Section 194-I, against 2.26 per cent under Section 194C. (The latest Finance Actrevised rentals of plant and machinery from 22.66 per cent to 11.33 per cent with effect from June 1, 2007; however, even the 11.33 per cent entails significant cash flow). While Section 194C provides for TDS in respect of contractual payments for carrying out any work; Section 194-I is in respect of TDS on payments of rent.
Domestic shipping companies have the option to be governed by the tonnage tax regime and, in most cases, they opt for it. Under this regime, the tax liability is normally far lower than the normal tax rates; therefore, a TDS rate of 22.66 per cent is very high and would end up in a refund situation.
Undoubtedly aware of this, the I-T department would have done well to look at the larger picture and thus helped avoid the significant litigation that arose; in a sense, given the refund situation, the department would not have benefited at all. Clearly, there was a significant cash-flow issue for shipping companies and a potential (what rate to deduct?) issue for the payers. From that angle, the High Court judgment is clearly a very welcome development.
Definition of rent
The issue arose when the definition of rent under Section 194-I was amended with effect from July 13, 2006, by the Taxation Laws (Amendment) Act, 2006 expanding the scope to include payments for the use of plant, machinery and equipment.
After this amendment, the Income-Tax department was postulating a higher TDS at 22.66 per cent under Section 194-I for rental income from vessels of shipping companies (instead of 2.26 per cent under Section 194C, which was the case before the amendment). Plant has been defined for certain purposes (primarily depreciation) as including ships; the department contended that ship rental income is covered by the amended definition of rent and, hence, subjected such charter income to higher TDS.
Accordingly, it issued notices to the charterers of ships for deduction of tax at the higher rates before making payment to the shipping companies. It had also sent a communication to the Indian National Ship Owners Association (INSA) for payment by its members as per the new levy effective July 13, 2006.
Aggrieved by the demands of the tax department, INSA filed a writ petition before the Bombay High Court. The court, in its recent judgment of June 29, 2007, held that, prima facie, Section 194-I is not attracted in the case of ship s, transport vehicles and freight/charter hire payments thereto.
The court also held that the definition of plant in the I-T Act, which includes ship, is only for the purpose of Sections 28 to 41. Therefore, the fact that the said definition has been found necessary means that in normal parlance plant does not include ship. Further, even Sections 32A and 33 of the I-T Act clearly differentiate ships, machinery and plant.
The High Court also opined that the scope of Section 194C covers carriage of goods and passengers, and freight payments are to be dealt with under Section 194C and not Section 194-I.
In other words, one can say that the court has impliedly restated the principle of specific overrides general. That is, where Section 194C specifically covers cases of carriage of goods and passengers, then Section 194-I, which is more general in nature, cannot override the former.
Interestingly, the Delhi High Court in the recent Prasar Bharti Broadcasting Corporation of India (November 17, 2006) case, held that once there is a specific provision by way of Explanation to Section 194C to cover work concernin g broadcasting and telecasting, the Revenue cannot resort to Section 194J covering technical services which is in more general terms. The view of the judiciary, accordingly, seems quite clear in such matters.
The Bombay High Court decision is also in line with the principle that provisions of a statute have to be read in the context of the intention of the legislature.
The intention of expanding the scope of rent to include payments for use of plant could not have been to enforce a TDS of 22.66 per cent on payments for charter hire of ships. This would mean deducting tax on virtually the gross business revenue of shipping companies at a rate which is nowhere near to the actual average tax rate of the industry after the introduction of tonnage tax.
The charterers of ships were also in bind as they were caught in the cross fire between TDS notices of the department and the contrary view of shipping companies, especially since an inappropriate deduction of tax entails a risk of disallowance of expense under Section 40(a) of the I-T Act for the payer. The judgment should hopefully ease the situation.
Ketan Dalal (The author is Executive Director, PricewaterhouseCoopers.)