The more you explain, the less clear things appear to be. This statement could apply to a host of things including service PEs. Echoing, perhaps, the modern marketing techniques where the ambassador becomes the brand, the concept of service PE is that the employees of an entity could well constitute a permanent establishment as opposed to the general perception of an establishment being a place, a fixed location which is accessible. Interestingly, the number of such personnel is not important as even two persons on deputation can constitute a PE. Once PE is established the (host) state gets jurisdiction to tax income accruing to the overseas entity as per applicable provisions, be it DTAA, domestic tax etc.
In the recent case of JCB Bamford (ITA No. 540/Del/2011) Delhi ITAT examined the following to determine existence of a service PE:
- There must be furnishing of services, including managerial services
- The services should not be taxable as royalty or FTS
- Be rendered by employees of the overseas ( other State) entity to the entity in India
- The services should have been rendered in India
- Threshold of period of stay of 90 days or more should be satisfied
A snapshot of some cases which have dealt with service PE and shaped our understanding is given below. Most cases refer to the Director of India Tax (International Taxation) v. Morgan Stanley and Company Inc. (2007)292 ITR 416 (SC) to examine nature of service provided as managerial or mere stewardship activities and whether by mere deputation the deputationists will become employees of the entity to which they are deputed.
|JCB Bamford – Service PE upheld||Tekmark – Not service PE||Verizon (AAR ruling) – Service PE|
|Control and supervision||On facts control with parent in UK.||Was with Indian entity.||With Indian entity as per contract but employees’ lien on overseas parent continues|
|Issue of employee cards, deduction of TDS||Not determinative of employer employee relationship.||Not determinative|
|Nature of services||Managerial services||Not specified - personnel to work under direction of Indian entity. American company selected and offered personnel to work.||Managerial services|
|Terms of contract||Deputationists continued to be employees of parent. No letter of appointment issued by Indian subsidiary.||Indian company has right to remove personnel from employment.||Employees of affiliate of parent deputed. Affiliate has powers to replace the deputed employees.|
|Duration||Threshold of 90 days satisfied||Threshold of 90 days satisfied|
|Payment||Directed to be apportioned where effectively connected with PE, and taxed as business profits.||Actual cost reimbursed||Reimbursement not limited to salary alone, other components exist. Payment made net of taxes, borne by Indian entity.|
A factor which needs to be kept in mind while structuring the business or finalising the terms of contract is that the arrangement must not only be cost effective, it must also be effort effective. For instance, if PE is established records and other documentary compliances will follow. The same transaction could attract multiple tax laws. Irrespective of whether a PE exists or not, liability under service tax would be attracted when services are received from the foreign entity by the Indian arm unless the personnel deputed become ‘employees’ of the Indian arm. In particular, post negative list, establishments in taxable and non-taxable territories are treated as separate entities and the arguments like self-service may not be attractive.
The term employer is not defined in the Income-tax Act, 1961, but a definition was attempted in the earlier DTC bill 2010. It reads employer means a person who controls an individual under an express or implied contract of employment and is obliged to compensate him by way of salary;. However this does not find a place in the 2013 version. The term employer can the be understood in common parlance as a person who is offered certain services on agreed terms and compensates the provider of such service by way of salary or wages.
Supervision and control
Supervision and control had been tested on a host of grounds including,
- designation – ‘To say that the Managing Director of a company is under the control and supervision of the company is nothing more than use of an expression’ in Verizon to hold that control is with the entity deputing the personnel
- right to dismiss
- disciplinary action – In JCB Bamford , complaints being handled by global HR head implied that the Indian entity had no control
It is thus, not sufficient to merely state that the persons deputed will be under control and supervision of entity in other State (India).
Service not taxable as royalty or FTS
In JCB Bamford the entire consideration for grant of licence, technical assistance, inspection and managerial services was offered to tax as royalty. After the finding of service PE, the income ‘effectively connected’ with the PE alone was to be determined and taxed as business profits. This is also an area for caution since royalty itself is subject to myriad interpretations and even if a payment does not fall under the category of royalty, it could find its way to ‘business profits’ and attract a higher rate of tax.
Bearing the burden of tax
An argument put forth in Verizon was that tax was already deducted from the salary paid and the actual amount was reimbursed to the overseas entity and further subjecting the same to tax as business profits would amount to double taxation. However, it was opined that salary and payment to the employer arise from different sources and bear different character. Also, the tax was to be borne by the Indian entity (licensee in JCB Bamford, and subsidiary in Verizon) and hence the overseas entity had recovered an additional amount.
Thus, establishing that there is no PE is not simply a matter of keeping the period of stay in India within threshold limits and laying down terms in the contract that control and supervision has passed from the deputing company to the Indian entity. In case of associated enterprises, the threshold is much less and again not only employees but other personnel rendering services could also lead to creation of PE. An entity must also bear in mind the overall cost in terms of its own tax burden under different laws.
[The author is a Manager, Knowledge Management Team, Lakshmikumaran & Sridharan, New Delhi]