A few months back, the Income Tax Appellate Tribunal (ITAT), Delhi Bench, passed an order favouring the taxpayer in the case of PanAmSat International LLC vs Deputy Commissioner of Income Tax. PanAmSat, a tax resident of the US, is a satellite company and had entered into contracts with various US and non-US broadcasters for beaming television signals in the satellite footprint area, which included India. None of these contracts were executed in India and all payments under these contracts were also received by PanAmSat outside India. India was only one of the footprints for receiving the television signals.
In an earlier case of Asia Satellite Communications Company Ltd vs Deputy Commissioner of Income Tax, ITAT had ruled against AsiaSat, also a satellite company and a tax resident of Hong Kong for carrying out similar activities as PanAmSat. In AsiaSat’s case, ITAT had held that payments received by AsiaSat would be taxable as royalty. There is no double taxation avoidance treaty between India and Hong Kong. Hence, the relevant law was the domestic tax law, i.e. the Indian Income-Tax Act, 1961 (I-T Act). In PanAmSat’s case, the provisions of the double taxation avoidance treaty between India and the US had to be considered in addition to the I-T Act. The Act provides that the provisions of double taxation avoidance treaties, if they are more favourable to a taxpayer, will override the provisions of domestic tax law.
The issue that came up for consideration before the ITAT in PanAmSat’s case was (a) whether payments received by PanAmSat under its contracts with various broadcasters are taxable in India as “royalty” or “fee for included services (FIS)”, following the principles laid down in AsiaSat’s case, and (b) even assuming it was “royalty” or FIS, could it be taxable in India applying the source rule under the Indo-US Treaty?
Though the Income-Tax Department relied quite heavily on ITAT’s decision in the AsiaSat matter, in PanAmSat’s case, it was held that the payments received by PanAmSat could not be treated as royalty in terms of AsiaSat’s case since that was a non-treaty case. ITAT also held that the payments received by PanAmSat are not FIS since AsiaSat tests prescribed under the Indo-US Treaty were not satisfied.
Further, ITAT undertook a detailed analysis of the “source rule” provisions under the IT Act as well as the Indo-US Treaty and concluded that the source-rule provisions under the Indo-US Treaty are much narrower in scope than the I-T Act. It went on to hold that even assuming such payments were in fact royalty or FIS under the Indo-US Treaty, (a) in case of payments made to PanAmSat by US broadcasters, the royalty/FIS would accrue in the US and could not be taxed in India under the Indo-US Treaty unless the royalties/fees for included services are incurred in connection with and borne by a “permanent establishment” in India; (b) once royalty or FIS accrues in the US in accordance with the Indo-US Treaty, even if the intellectual property/asset is used in India, the royalty cannot be taxed in India on the basis of such use; (c) as regards non-US broadcasters, the language of the source rule under the Indo-US Treaty is materially different and narrower than the source rule embodied in Section 9 of the I-T Act. The Indo-US Treaty requires the “process” to take place in India or services to be performed in India. In a case like PanAmSat, assuming there is a process involved, the process actually takes place in a transponder several thousand kilometres above earth outside the geographical boundaries of India. As a result, the process, if any, is not used in India as required in terms of the Indo-US Treaty and, therefore, not subject to tax as ‘royalty’ in India under the Indo-US Treaty. Likewise, as no services are performed in India, the payments cannot be taxable as FIS under the treaty.
So, what are the implications of the decision in the PanAmSat case? First, it does not overrule the decision of ITAT in the AsiaSat case. AsiaSat findings may still hold good in cases where domestic law, i.e. the provisions of the I-T Act are applied on similar facts. In cases where double taxation avoidance treaties exist, the matter will be considered after an analysis of the provisions of the relevant treaties. Another important aspect to be noted from the ratio in the PanAmSat case is the suggestion that if a US tax payer acquires the right to use a trademark in India from another US taxpayer, the royalty income would accrue in the US under Article 12(7)(a) of the Indo-US Treaty and would not be taxable in India even if the trademark is used in India as long as the payer of royalty does not have a permanent establishment in India. This example can be applied to a variety of licences, the income from which would be classifiable as royalty under the Indo-US Treaty, including copyright licences, process licences and, possibly, equipment licences as well.
AZB & Partners, Advocates & Solicitors