tax notes international - Tuck School of Business - Dartmouth College

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Table 2. Comparison of OECD Model Convention and India-Singapore Treaty OECD Model Convention Agreement Between the Government of the Republic of Singapore and the Government of the Republic of India for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income concluded January 24, 1994 Article 5—Permanent Establishment Article 5—Permanent Establishment 1. For the purposes of this Convention, the term ‘‘permanent establishment’’ means a fixed place of business through which the business of an enterprise is wholly or partly carried on. 2. The term ‘‘permanent establishment’’ includes especially: a) a place of management; b) a branch; c) an office; d) a factory; e) a workshop, and f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources. (...) 5. Notwithstanding the provisions of paragraphs 1 and 2, where a person — other than an agent of an independent status to whom paragraph 6 applies — is acting on behalf of an enterprise and has, and habitually exercises, in a Contracting State an authority to conclude contracts in the name of the enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to those mentioned in paragraph 4 which, if exercised through a fixed place of business, would not make this fixed place of business a permanent establishment under the provisions of that paragraph. To support its arguments, Indian tax authorities relied mainly on the OECD ‘‘Report on the Attribution of Profits to Permanent Establishments.’’ SET Satellite argued that, according to the provisions of article 7(2) of the India-Singapore treaty, since SET India was remunerated on an arm’s-length basis there was no additional profit to be taxed in India regarding the advertisement revenues. The arguments raised by SET Satellite were supported by the writings of Philip Baker and Richard S. Collier, guidance previously issued by the Indian tax authorities, and the decision of the AAR in Morgan Stanley, in which an arm’s-length reward paid by a foreign enterprise to its dependent SPECIAL REPORTS 1. For the purposes of this Agreement, the term ‘‘permanent establishment’’ means a fixed place of business through which the business of the enterprise is wholly or partly carried on. 2. The term ‘‘permanent establishment’’ includes especially: (a) a place of management; (b) a branch; (c) an office; (d) a factory; (e) a workshop; (f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; (g) a warehouse in relation to a person providing storage facilities for others; (h) a farm, plantation or other place where agriculture, forestry, plantation or related activities are carried on; (i) premises used as a sales outlet or for soliciting and receiving orders; (j) an installation or structure used for the exploration or exploitation of natural resources but only if so used for a period of more than 120 days in any fiscal year. (...) 8. Notwithstanding the provisions of paragraphs 1 and 2, where a person — other than an agent of an independent status to whom paragraph 9 applies — is acting in a Contracting State on behalf of an enterprise of the other Contracting State that enterprise shall be deemed to have a permanent establishment in the first-mentioned State, if: (a) he has and habitually exercises in that State an authority to conclude contracts on behalf of the enterprise, unless his activities are limited to the purchase of goods or merchandise for the enterprise; (b) he has no such authority, but habitually maintains in the first-mentioned State a stock of goods or merchandise from which he regularly delivers goods or merchandise on behalf of the enterprise; or (c) he habitually secures orders in the first-mentioned State, wholly or almost wholly for the enterprise itself or for the enterprise and other enterprises controlling, controlled by, or subject to the same common control, as that enterprise. agent for the service provided extinguishes the tax liability of the foreign enterprise in India. The court clearly adopted an interpretation in line with the authorized OECD approach or dual taxpayer approach by treating the dependent agent and the agency PE as two different taxable units: A dependent agent cannot, strictly speaking, be termed as PE because neither the Dependent Agent belongs to the PE, nor can one have something as a result of having the same thing, i.e. if a dependent agent is itself a PE, one cannot have a PE as a result of having a dependent agent. In TAX NOTES INTERNATIONAL FEBRUARY 2, 2009 • 439 (C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.
SPECIAL REPORTS such a case, the treaty could have simply stated that a dependent agent or agency shall be deemed to be PE of the enterprise; there was no need to say, as has actually been said, that an enterprise shall be deemed to have a PE by the virtue of having a dependent agent and meeting one of tests set out in the relevant sub article. Dependent Agent and the Dependent Agent PE, therefore, cannot be one and the same thing. 86 Regarding the determination of the profits of the agency PE, the court relied on the OECD ‘‘Report on the Attribution of Profits to Permanent Establishments’’ and followed the functionally separate entity approach by stating that: the profit computations of the PE have to proceed on the basis that the PE is wholly independent of its GE [General Enterprise], which from a purely accounting and commercial point of view, generally means nothing more than the hypothesis that intra organization transactions are to be taken into account at arm’s length price. 87 According to the court: the DAPE and DA88 has to be, therefore, treated as two distinct taxable units. The former is a hypothetical establishment, taxability of which is on the basis of revenues of the activities of the GE attributable to the PE, in turn based on the FAR89 analysis of the DAPE, minus the payments attributable in respect of such activities, in simple words, whatever are the revenues generated on account of functional analysis of the DAPE are to be taken into account as hypothetical income of the said DAPE, and deduction is to be provided in respect of all the expenses incurred by the GE to earn such revenues, including, of course, the remuneration paid to the DA. The second taxable unit in this transaction is the DA itself, but this taxability is in respect of the remuneration of the DA. 90 Regarding the AAR’s ruling in Morgan Stanley, the court stated that this argument was not persuasive as it is ‘‘well settled in law that these rulings have binding value only on the assessee and on the Commissioner with reference to that particular transaction.’’ 91 The court went on to conclude: 86 Id. at para. 8. 87 Id. at para. 10. 88 DAPE stands for ‘‘dependent agent permanent establishment,’’ and DA means ‘‘dependent agent.’’ 89 The court uses this acronym to refer to functions performed, assets used, and risks assumed. 90 Indian Income Tax Appellate Tribunal, Apr. 20, 2007, decision 535/Mum/04 and 205/Mum/04, para. 11. 91 Id. at para. 17. We are of the considered view that in addition of the taxability of the DA in respect of remuneration earned by him, which is in accordance with the domestic law and which has nothing to do with the taxability of the foreign enterprise of which he is dependent agent, the foreign enterprise is also taxable in India, in terms of the provisions of Article 7 of the tax treaty, in respect of the profits attributable to the dependent agent PE. 92 SET Satellite is an important case because it involves the effective application of the conclusions of the ‘‘Report on the Attribution of Profits to Permanent Establishments,’’ despite the arguments raised by the taxpayer against its legal status and applicability while no change in the wording of the OECD model convention or its commentary has been put in place. The judges had to reconcile the interpretation that seemed to be more appropriate with the relevant arguments raised by the taxpayer, especially the legal status of the report, which, at the time of the judgment, was not part of the commentary to the current OECD model convention. The report was not part of the commentary in place at the time of the conclusion of the India- Singapore treaty, which creates an additional argument for those that defend a static, rather than an ambulatory, interpretation of the commentary to the OECD model convention. As shown below, I believe this decision is correct and provides for the most appropriate interpretation of article 7 regarding the attribution of profits to PEs. However, this decision was made by the Indian Income Tax Appellate Tribunal, so it is unclear whether the Supreme Court of India will uphold the decision or whether it will clarify its earlier ruling in Morgan Stanley and rule in favor of the taxpayer. V. The Most Suitable Approach It seems safe to conclude that the authorized OECD approach is indeed the most appropriate approach to attribute profits to PEs. A. Adequate Allocation of Risks The single taxpayer approach is quite attractive at first sight, as it provides for an outcome that is apparently quite logical: As the dependent agent is remunerated on an arm’s-length basis, both home and host states seem to get their fair share of the income that arises in a particular transaction. 93 The home state taxes the profits of the enterprise, while the host state is entitled to tax the income paid to the dependent 92 Id. at para. 11. 93 Para. 272 of the ‘‘Report on the Attribution of Profits to Permanent Establishment,’’ Part I (General Considerations), (2006). 440 • FEBRUARY 2, 2009 TAX NOTES INTERNATIONAL (C) Tax Analysts 2009. All rights reserved. Tax Analysts does not claim copyright in any public domain or third party content.
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