1. Appellant is a private limited company. It had established a polyester staple fibre manufacturing plant at Ghaziabad with the collaboration of a German company, namely, M/s. Zimmer. As it was interested to expand the said plant by using Zimmer technology, an agreement was executed with the said company M/s Zimmer of West Germany on 23rd January, 1987 for the supply of technical know-how improved and modified and for rendering of services outside India in that connection. As per the agreement the company had to remit a sum of DM 4150000 to the German company. The appellant company accordingly applied to the Income-tax Officer under Section 195(2) of the Income-tax Act, 1961 for grant of permission to remit the amount without deduction of tax at source. It was claimed by the appellant company that no tax is required to be deducted at source under Section 195 as the payment was not assessable in India in the case of M/s.
Zimmer in view of Double Taxation Avoidance Agreement with West Germany. Since the Assessing Officer rejected the application of the assessee vide order dated 30th July, 1987, assessee deposited a sum of Rs. 29,06,545 on 8-8-1987 by way of tax deducted at source and filed an appeal under Section 248 of the Income-tax Act, 1961 to the CIT(A)-VIII, New Delhi. Though the CIT(A) confirmed the view of the Assessing Officer that the payments made to the German company were taxable in India yet it was held that the liability of the assessee to deduct tax would not exceed beyond 20% of the gross payments. Assessee is aggrieved.
2. It was contended on behalf of the assessee that the agreement between the assessee and the German company executed outside India at Frankfurt was for the outright purchase of technical know-how etc. and not for its mere use. Shri Kharbanda, the learned counsel for the assessee contended that the Double Taxation Avoidance Agreement between India and Federal Republic of Germany has overriding effect over the provisions of the Income-tax Act, 1961. As per the Double Taxation Avoidance Agreement profits in the case of a non-resident company would be assessable in India if it had any permanent establishment in India.
According to Shri Kharbanda, the payments made to the German company were not in the form of royalty but were payment for outright purchase of technical know-how etc. In such circumstances, the payment could be assessed to tax in India only if the German company and permanent establishment in India. Shri Kharbanda relied upon the decision of the Hon'ble Supreme Court in the following two cases to support the contention that the payment was not assessable in India: 1. Scientific Engg. House (P.) Ltd. v. CIT [1986] 157 ITR 86 : [1985] 23 Taxman 66.
Learned counsel referred to Article V of the Double Taxation Avoidance Agreement and claimed that this article had overriding effect over the provisions of Income-tax Act by virtue of circular of the CBDT No. 333 dated 2-4-1982. Shri Kharbanda referred to the order of CIT(A) wherein it is held that in the case of assessee payment is towards capital account. According to Shri Kharbanda, this finding has not been controverted by the revenue and as such there should be no doubt about the fact that what the assessee has acquired is an asset of enduring nature. According to Shri Kharbanda assessee has a right to give this technical data to any other company with the permission of the German company. Shri Kharbanda explained that the restriction on behalf of the German company not to give technical know-how to any other person without their consent was to ensure that they would get a part of the consideration on account of the transaction. Shri Kharbanda sought to compare such restriction with the restriction by DDA in lease deeds. It was contended that in the event of transfer of leasehold rights of DDA land a part of the unearned increase is payable to the DDA by virtue of the agreement. The purchaser is said to have acquired a capital asset notwithstanding the condition of paying the 50% of unearned increase to DDA. According to Shri Kharbanda similar is the position in the case of assessee as the German company has simply kept a beneficial term in the agreement to have its share as and when assessee is able to obtain a benefit by selling the technical know- how etc., Shri Kharbanda referred to the decision of the Bombay High Court in the case of CIT v.Ralliwolf Ltd. [1983] 143 ITR 720 in support of the claim that similar payment has been held to be not taxable in India.
3. The learned D.R. Shri Sandeep Tandon, on the other hand, vehemently argued that the payment made by the assessee to the German company was assessable in India as payment of royalty for the use of technical know-how by the assessee. Shri Tandon relied upon the decision of the Special Bench of the Tribunal in the case of Siemens Aktiengesellschafi v. ITO [1987] 22 ITD 87 (Bom.)(SB) in support of the contention that payment of the nature as in this case would amount to payment of royalty and accordingly liable to tax in India. Shri Tandon explained that in the hands of company the payment made may be for acquiring of an asset but in the case of payee company the payment is by way of royalty. Shri Tandon referred to the decision of this Tribunal in the case of ITO v. Munak Galva Sheets Ltd. [IT Appeal No. 2508 (Delhi) of 1987] wherein under identical circumstances the issue is stated to have been decided in favour of the revenue. According to Shri Tandon the agreement between the assessee and the German company is for use of technology and not for outright sale. Shri Tandon conceded that the provisions of Double Taxation Avoidance Agreement have overriding effect over the provision of Income-tax Act, 1961. He referred to Article IX of the Double Taxation Avoidance Agreement by virtue of which payment of royalty is assessable in the contracting State as well as in other State. According to Shri Tandon payment of royalty is assessable in India and accordingly the decision of CIT(A) may be confirmed.
4. In counter reply Shri Kharbanda pleaded that the order of the Tribunal referred to by the learned D.R. is distinguishable on facts.
Shri Kharbanda drew our attention to the order and pointed out that the Tribunal has not followed the decision of the Andhra Pradesh High Court in the case of CIT v. Visakhapatnam Port Trust [1983] 144 ITR 146 on the ground that the Court was concerned with Double Taxation Avoidance Agreement with Germany. Since in this case the provisions of Double Taxation Avoidance Agreement with Germany are involved, the decision of the Andhra Pradesh High Court in the case of Visakapatnam Port Trust (supra) is applicable in full force and the decision of the Income-tax Tribunal is not applicable at all. It was accordingly urged that the appeal of the assessee may be accepted.
5. We have given our careful consideration to the rival contentions and have perused the records. Section 4 of the Income-tax Act, 1961 provides for charging of income- tax in accordance with and subject to the provisions of the Act in respect of total income of the previous year of every person. Section 5 of the Act gives the scope of total income. Sub-section (2) of Section 5 deals with the total income of non-residents, which is reproduced hereunder: 5(2) Subject to the provisions of this Act, the total income of any previous year of a person who is a non-resident includes all income from whatever source derived which- (a) is received or is deemed to be received in India in such year by or on behalf of such person; or (b) accrues or arises or is deemed to accrue or arise to him in India during such year.
Explanation 1: Income accruing or arising outside India shall not be deemed to be received in India within the meaning of this section by reason only of the fact that it is taken into account in a balance-sheet prepared in India.
Explanation 2 : For the removal of doubts, it is hereby declared that income which has been included in the total income of a person on the basis that it has accrued or arisen or is deemed to have accrued or arisen to him shall not again be so included on the basis that it is received or deemed to be received by him in India.
As is evident from Section 5(2) above, income which accrues or arises or is due to accrue or arise to a non-resident Indian is includible as his income assessable to tax. Section 9 of the Act describes the income which is deemed to accrue or arise in India. Sub-section (1) of Section 9 of the Income-tax Act provides that all income accruing or arising whether directly or indirectly through or from any business connection in India or through or for 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, shall be deemed to accrue or arise in India.
6. Since it is admitted case of parties that M/s Zimmer the German company did not have any business connection in India or property in India, the payment made to such company by the assessee-company would not fall within Clause (i) of Sub-section (1) of Section 9. Sub-clause (vi) of Section 9(1) also deems to accrue or arise in India the income by way of royalty payable by a person who is a resident except where the royalty is payable in respect of any right, property or information used or services utilised for the purposes of business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India. Explanation 2 to Sub-section (1) of Section 9 defines 'royalty' as under : Explanation 2 : For the purposes of this clause "royalty" means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head "Capital gains") for - (i) the transfer of all or any rights (including the granting of a licence) in respect of a patent invention, model, design, secret formula or process or trade mark or similar property; (ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property; (iii) the use of any patent, invention, model, design secret formula or process or trade mark or similar property; (iv) the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill; (v) the transfer of all or any rights (including the granting of a licence) in respect of any copyright literary, artistic or scientific work including files or video tapes for use in connection with television or tapes for use in connection with radio broadcasting but not including consideration for the sale, distribution or exhibition of cinematographic films; or (vi) the rendering of any services in connection with the activities referred to in Sub-clauses (i) to (v).
7. If we go by the definition of 'royalty' under Section 9 of the Income-tax Act, 1961 then possibly the payment of the nature as in this case would fall within its ambit. However one cannot lose sight of Section 90 of the Income-tax Act, 1961. Under Section 90, the Central Government is empowered to enter into an agreement with the Government of any country outside India for avoidance of double taxation of income under the Act and under the corresponding law in force in that country.
If we fall back on Section 4 which is the charging section it provides for the levy of tax on total income "subject to the provisions of the Act". Section 5 of the Act, defining total income also operates "subject to the porvisions of the Act". Reading these sections harmoniously with Section 90 of the Act, there is no doubt that Section 90 has overriding effect over the provisions of sections 4, 5 & 9 of the Act. Thus where the Government of India has entered into an agreement with a foreign country for avoidance of double taxation, the terms and conditions of the Double Taxation Avoidance Agreement shall have to be implemented in preference to the provisions of the Act wherever there is a conflict. The CBDT have also vide Circular No. 333 dated 2nd April, 1982 issued instructions to the officers of the Department that in case of conflict between the provisions of the Income-tax Act and the provisions contained in the Double Taxation Avoidance Agreement, assessment should be made in accordance with the Double Taxation Avoidance Agreement.
8. In this case the non-resident company has business establishment in West Germany and there is an agreement between India and Federal Republic of Germany for avoidance of double taxation signed on 18th March, 1959. The terms of the agreement have been amended and amendments notified vide Notification. No. GSR 680(E) dated 26th August, 1985. In view of Section 90 of the Income-tax Act, 1961, the provisions of the Double Taxation Avoidance Agreement have the overriding effect over the provisions of the Income-tax Act, 1961.
Article V of the Agreement provides that the profits of an enterprise of a contracting State shall be taxable only in that State unless the enterprise carries on business in the other contracting State through a permanent establishment situated therein. If the enterprise carried on business as aforesaid the article provides that the profits of the enterprise may be taxed in the other State to the extent these are attributable to that permanent establishment. Clause (7) of Article V provides that where the profits include item of income which are dealt with separately in other Articles of this agreement, then the provisions of those Articles shall not be affected by the provisions of this article.
9. As already stated the foreign company does not have any permanent establishment in India and accordingly the payment made to then German company does not fall within Article V of the Double Taxation Avoidance Agreement. We have to consider as to whether the payment made by the assessee to the German company falls within any other Article of the Agreement. Article IX of the Agreement provides that royalties and fees for technical services arising in a contracting State and paid to other residents of contracting State may be taxed in that other State. This Article also permits taxation of such royalties and fees for technical services in the contracting State in which they arise according to the laws of that State. However, in that case the tax charged would not exceed 20% of the grcss amount of such receipt. The term 'royalty' has been defined under Clause (3) of Article IX as under : The term 'royalties' as used in this Article means payment of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematographic films, or films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience.
Since Double Taxation Agreement deals with royalties the definition under the Double Taxation Agreement shall have preference over the definition of the word 'royalty' under Section 9 of the Income-tax Act, 1961. The distinguishing features in two definitions are that whereas under the Income-tax Act any consideration for the transfer of all or any rights in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property falls within its definition, under the Double Taxation Agreement, the payment for the use of such assets would fall within the definition of royalty.
10. Thus we shall have to examine the payment made by the assessee company to the German company in the light of the definition under the Double Taxation Agreement. We have to consider as to whether the payment made by the appellant company to the German company falls within the definition of the term 'royalty' as per Article IX of the Double Taxation Avoidance Agreement. If it falls within the definition of term 'royalty' as per the agreement then amount is permissible to be taxed in accordance with the provisions of the Income-tax Act, 1961 subject to maximum of 20% of the gross amount. In order to determine the nature of payment, we will have to refer to the terms of the agreement between the appellant company and the German Company.
Whereas the Buyer is operating a polyester staple fibre manufacturing plant at Ghaziabad, in the State of Uttar Pradesh, India, for the production of 6100 metric tons (per annum) of fibre, established with the collaboration of Zimmer, and Whereas the Buyer is interested and has obtained the approval of the Government of India, including clearance by the Monopoly Commission, to expand the said plant by using Zimmer technology, including improvements and modifications developed thereto either by Zimmer or by Buyer, the use of such technology being restricted to the continuous production of polyester staple fibre starting from DMT and EG or, alternatively PTA and EG, as feedstock and for the said purpose is desirous of having the assistance of Zimmer for the supply of the basic engineering and for the verifi- cation of any modifications made by the Buyer and for the inclusion therein of innovations made by Zimmer to the said technology, and Whereas Zimmer has agreed to disclose, impart and transfer/deliver to Buyer technical know-how duly improved and modified relating to the continuous manu- facture of polyester staple fibre starting from DMT and EG or, alternatively PTA and EG, as feedstock in the said plant as hereinabove mentioned and to render certain other services outside India on the terms and conditions hereinafter appearing.
Zimmer shall disclose, impart and transfer/deliver to Buyer the said technical know-how duly improved and modified in the manner and to the extent set out in Clause 1 (a) hereof for use, application and exploitation by Buyer's plant in India. The said technical know-how and all documents and other materials relating to the technical know-how shall be disclosed, imparted and delivered/transferred by Zimmer in Frankfurt/Main, Federal Republic of Germany, to a representative or representatives of Buyer designated for that purpose. In the absence of such representative being available in Frankfurt/Main, delivery of the said technical know-how or part thereof shall be deemed to have taken place to Buyer in Frankfurt/Main at the time the said technical know-how or part thereof has been mailed in Frankfurt/Main by registered airmail or hand over in Frankfurt/Main to an air carrier and addressed to Buyer. On the technical know-how being disclosed, imparted and delivered/transferred, the same shall become the property of Buyer but for use and exploitation only in the plant in India. The technical know-how, based on German standards (DIN. VDE etc.) shall be furnished in triplicate in the English language and in metric units of measurement.
11. A perusal of various clauses of the agreement referred to above between the appellant company and the German company weigh heavily in fayour of the assessee that the payment made was for outright sale and not for mere user, of technology. Lumpsum payment may not be a decisive factor for considering the payment towards royalty or towards outright sale. The important factor, in our view, is to consider as to whether the payment made by the assessee is dependent upon the user of technology or is independent of it. If the payment is dependent on the user of the technology for a particular period, such payment even if it is a lump sum payment shall have to be treated as royalty within the definition as contained in the Double Taxation Agreement. In this case, however, fact remains that the company has not used the technology transferred to it so far. Nevertheless the German company is entitled to the payment even if the assessee company decides not to use the technology at all. There is no clause enabling the assessee to get refund of whole amount or the part of it for not using the technology at any point of time. This factor, in our view, goes strongly in favour of the claim of the assessee that the payment was not mere use of the technology but was for outright sale.
12. There is a secrecy clause in the agreement between the parties, which may be for safeguarding the interests of the German company.
However, existence of a mere secrecy clause in the agreement would not militate against the assessee as outright sale of technical know-how subject to certain conditions and limitations is within the possibilities. There is a clause in the agreement enabling the assessee company to allow any other Indian party to use the technical know-how subject to the condition that the licence payment would be shared by the Indian company with the German company in the event of use of technology by any other Indian company. This condition could be interpreted towards the maximum benefit sought to be derived by the German company from the transaction of transfer of technology to the assessee company. In fact this clause again goes in favour of the assessee company as in the event of assessee company having the mere right of user would not be entitled to allow any other Indian company to utilise the technology. As rightly argued by Shri Kharbanda, DDA is transferring leasehold rights in Delhi with a condition that in the event of resale DDA would be entitled to 50% of the unearned increase.
Such a provision cannot be construed against the possibility of outright sale of property/rights in property.
13. Considering totality of the circumstances of this case, we are of the view that the company, namely, M/s. Zimmer have transferred the technical know-how etc. to the assessee company in consideration of DM 41,50,000 and that such a transfer was not merely a right to its use.
It, therefore, follows that the payment made by the assessee company to the German company does not fall within the definition of term 'royalty' under the Avoidance of Double Taxation Agreement between India and Federal Republic of Germany. That being so, the receipts in the hands of German company would be taxable only under Article V of the said agreement. Since it is admitted case of the parties that the German company was not having a permanent establishment in India, the receipt by the German company would be taxable in Germany and not in India. In view of what has been held above, we are satisfied that there was no obligation upon the assessee to deduct tax in respect of payment made to the German company by virtue of the agreement for the transfer of technical know-how etc. The appeal of the assessee is allowed and the Assessing Officer is directed to refund the tax collected from the assessee in accordance with law.