1. At the instance of the Commissioner of Income-tax, Bombay City-I, Bombay, the following question has been referred to us by the Tribunal for our opinion under section 66(2) of the Indian Income-tax Act, 1922 :
'Whether, on the facts and in the circumstances of the case, the assessee-company derived any income from business connection in India chargeable to tax under section 42 of the Indian Income-tax Act, 1922 ?'
2. The question relates to the assessment of the assessee which is a non-resident company and it pertains to the assessment years 1947-48 to 1952-53, the corresponding previous years ending on October 31, 1946, October 31, 1947, October 31, 1948, October 31, 1949, October 31, 1950, and October 31, 1951, respectively. The material facts giving rise to the question may be stated. The assessee is a company dealing in petroleum products and is incorporated in the United Kingdom, which for the sake of convenience will be hereinafter referred to as 'non-resident company'. It has a wholly owned subsidiary company called Gulf Oil (India) Private Ltd. incorporated in India in or about 1922. It appears that prior to 1922 the products of the assessee were being sold in India to a firm. After 1922 the petroleum products dealt with by the assessee were being sold by the Indian subsidiary company. The modus operandi of effecting sale of their petroleum products may be described thus : The non-resident company received indents from time to time for the supply of the products from the Indian subsidiary company. The Indian subsidiary company has its own branches in India with its head office in Bombay. The requirements of the branches are set out in the form of orders and are sent through the head office to the non-resident company. The non-resident company accepted these orders along with those relating to the head office also in London and executed those orders thus : The goods were shipped from Great Britain and the relevant bills of lading were taken in the name of the Indian subsidiary company. The insurance was effected by the non-resident company in its revolving policies. The prices charged on the products and debited to the Indian subsidiary company were on the basis of the prevailing quarterly price lists maintained by the non-resident. The prices charged were C.I.F. The documents relating to the goods were sent over to India by post addressed to the Indian subsidiary company. On receipt of the documents the Indian subsidiary company cleared the goods on their arrival and effected sales on its own account either at the head officer or in the branches, as the case may be. The Indian subsidiary company credited the amount due to the non-resident company in its books in favour of the non-resident company. The Indian subsidiary company thus purchased the goods on credit and remitted the money due to the non-resident company from time to time. Interest was charged on the outstanding balance from the Indian subsidiary company by the non-resident. Once the goods were put on the ship, there was no reservation of right of disposal in the goods by the non-resident.
3. It may be stated that the Indian subsidiary is being assessed to tax on its profits arising from the sale of those products and also of others purchased locally in India. The sales effected by the non-resident company to the Indian subsidiary company during the relevant accounting years were as follows :
Accounting year ended Sales by the non-residentRs.31-10-1946 25,18,51031-10-1947 55,56,62331-10-1948 38,24,40031-10-1949 55,02,61531-10-1950 36,70,94031-10-1951 43,07,950
4. During the course of assessment proceedings for the relevant assessment years question arose as to whether there was business connection in India and whether the profits of the non-resident could be deemed to have accrued within the taxable territories under section 42(1) of the Act. The Income-tax Officer held that the Indian subsidiary company was the sales organisation of the non-resident company and that there was business connection. As regards the contention of the assessee that even if there was business connection no income could be said to accrue or arise to the non-resident in the taxable territories, having regard to the provisions of sub-section (3) of the section 42, the Income-tax Officer took the view that in view of the modus operandi of the transaction between the non-resident and its Indian subsidiary there were operations in India, that is, in taxable territories to which profits could be attributed under section 42(1) of the Act. The Income-tax Officer also laid considerable emphasis on the fact that the facility provided for the sale of the goods by the U. K. company in India was by formation of 100% subsidiary which controlled and promoted the sales of the goods of the parent company, and that it thus suggested that there were operations pertaining to the transactions in question in India. For the assessment years 1947-48 and 1948-49 the Income-tax Officer took the view that 10% would be the profit earned by the non-resident on the sales to the Indian subsidiary and that out of this 10%. 75% could be attributed to the operations in India. In other words, he took the view that 7 1/2% of the total profits as being attributable to the operations in India and brought to tax the relevant amounts for the said years. For the assessment years 1949-50 and subsequent years, he took the proportionate profits as assessed in U. K. and applied 75% thereto as profits attributable to India. Against the orders of the Income-tax Officer the assessee preferred appeals before the Appellate Assistant Commissioner for several years. The Appellate Assistant Commissioner took the view that having regard to the relationship and the nature of the dealings of the non-resident with its India subsidiary, it could not be said that all the operations in respect of the non-resident's business had taken place outside the taxable territories. Amongst the several operations which he considered as having taken place in a India he enlisted three or four, namely, canvassing of the orders and securing of import/export quotas and licences by the Indian subsidiary in India; for, according to him, but for this work there could not have been any sale of the goods by the non-resident to its Indian subsidiary; from the course of dealings it seemed that there was a standing offer of sale by the non-resident to the Indian subsidiary company at applicable c.i.f. prices and that the Indian subsidiary company placed its indent order with the non-resident company. In other words, the formation of the contract in respect of the goods sold by the non-resident company to the Indian subsidiary company took place in India; the posting of the documents to the Indian subsidiary was done without payment of the price, though the necessary ingredient of a c.i.f. contract was payment of the price against the tender of the documents and that the insurance had been effected under a policy for the account of the non-resident and not of the Indian subsidiary company. In other words, the Appellate Assistant Commissioner felt that it could not be said that by posting the documents the non-resident company had really parted with its property in the goods, and that, therefore, the sale could be said to have been concluded only on the clearance of the goods by the Indian subsidiary company in the port of destination at Bombay.He, therefore, confirmed the view of the Income-tax Officer that to a considerable extent the profits derived by the non-resident company from the business connection in India was attributable directly or indirectly to the operations carried out in the taxable territories in respect of the non-resident's business. He, therefore, upheld the assessment in principle but took the view that the profits earned by the non-resident company should be taken at 5% of the turnover and after making an allowance of proportionate administrative charges he brought the tax 2 1/2% of such profits for each of the six years under consideration.
5. Against these orders the assessee preferred second appeals to the Tribunal. In these appeals it was contended on behalf of the assessee that there were no operations whatsoever in India and as such no amount could be taxed. It was pointed out that the Appellate Assistant Commissioner had taken into account items such as canvassing of the orders done by the Indian subsidiary company and the contracts of sales between the non-resident and the Indian subsidiary company as having taken place not wholly abroad, but of the purpose of section 42(3) the operations relevant were only those which could have resulted in profit to the assessee and that such of operations pertaining to the transactions which had been under-taken by the Indian subsidiary in the course of its own business, on the profit of which it had suffered taxation, were irrelevant. The Tribunal recorded the following findings in the matter on a consideration of rival submissions that were put forward by counsel on either side :
(a) That the non-resident company has business connection in India as a result of its dealings through its Indian subsidiary company within the meaning of section 42(1) of the Act.
(b) canvassing of the orders by the Indian subsidiary company being on its own account, it could not be considered as relevant for the purpose of section 42(3),
(c) the contracts were concluded in U.K. by the acceptance and execution,
(d) the goods were unconditionally appropriated to the contract on shipment and there was no reservation of right of disposal by the non-resident. The goods reached India as the Indian subsidiary company's goods, and
(e) the Indian subsidiary company carried on its own business and all its operations were those that where relevant to its own business. There was no operation in India so that any profit earned by the non-resident company could be attributed to it. In view of these findings the Tribunal held that no part of the income that accrued or arose to the non-resident company could be deemed to have been accrued or arisen in the taxable territories. In other words, the Tribunal was of the view that there was no scope for assessment by applying the provisions of section 42(3) of the Act in the case. At the instance of the Commissioner of Income-tax, Bombay City-I, Bombay, the question set out at the commencement of the judgment has been referred to us for our opinion.
6. Mr. Joshi appearing for the revenue has contended before us that if two or three aspects which emerge on record are taken into consideration, the question of applying the provisions of section 42(3) of the Act would arise unless the court positively comes to the conclusion that the transactions between the non-resident company and the Indian subsidiary company were transactions as between principal and principal. In the first place, he pointed out that the Tribunal has positively recorded a finding that the non-resident company could be said to have business connection in India qua the transactions in question as required by section 42(1) of the Act. Secondly, he pointed our that admittedly the prices charged are C.I.F. prices and ordinarily the property in goods would pass against documents which would be presented by the Indian subsidiary company while taking delivery of the goods. Thirdly, he pointed out that there was no material to indicate as to whether prior to 1922 when the non-resident company supplied its products to the Indian firm, the latter effected sales thereof in India as the selling agent or not, but that aspect will have to be considered qua the transactions put through the Indian subsidiary for the relevant assessment years and unless the transactions are regarded as between principal and principal, the provisions of section 42(3) would be attracted, especially in view of the fact that the Indian subsidiary company was a 100 per cent. subsidiary of the non-resident company. However, Mr. Joshi was fair enough to invite our attention to a circular bearing No. 23 of 1969, dated July 23, 1969, issued by the Central Board of Direct Taxes where certain clarifications have been issued by the Board on the scope of provisions of section 42 (section 9 of the Income-tax Act, 1961), and their applicability in certain types of cases and he fairly conceded that the question raised in the instant reference may have to be considered having regard to the guidelines or clarifications that have been issued by the Board in the said circular. Paragraph 2 of the circular runs thus :
'2. The expression 'business connection' admits of no precise definition, The import and connotation of his expression have been explained by the Supreme Court in their judgment in Commissioner of Income-tax v. R. D. Aggarwal and Co. : 56ITR20(SC) . The question whether a non-resident has a 'business connection' in India from or through which income, profits or gains can be said to accrue or arise to him within the meaning of section 9 of the Income-tax Act, 1961 (equivalent to section 42 of the 1922 Act), has to be determined on the facts of each case. However, some illustrative instances of a non-resident having business connection in India are given below :......
(d) Forming a local subsidiary company to sell the products of the non-resident parent company. ......'
7. Having regard to this illustrative instance, which has been given in paragraph 2 of the aforesaid circular, it is quite clear that in the instant case the business connection could be said to have been established, inasmuch as the India subsidiary company which is a hundred per cent. subsidiary owned by the non-resident company has been formed to effect sale of the products of non-resident company. Sub-paragraph (2) of paragraph 3 of the said circular is material and it runs as follows :
'3. The following clarifications would be found useful in deciding questions regarding the applicability of the provisions of section 9 in certain specific situations : ......
(2) Non-resident company selling goods from abroad to its Indian subsidiary :
(i) A question may arise whether the dealings between a non-resident parent company and its Indian subsidiary can at all be regarded as on a principal-to-principal basis since the former would be in a position to exercise control over the affairs of the latter. In such a case, if the transactions are actually on a principal-to-principal basis and are at arm's length and the subsidiary company functions and carries on business on its own, instead of functioning as an agent of the parent company, the mere fact that the Indian company is a subsidiary of the non-resident company will not be considered a valid ground for invoking section 9 for assessing the non-resident.
(ii) Where a non-resident parent company sells goods to its Indian subsidiary, the income from the transaction will not be deemed to accrue or arise in India under section 9, provided that (a) the contracts to sell are made outside India, (b) the sales are made on a principal-to-principal basis and at arm's length, and (c) the subsidiary does not act as an agent of the parent. The mere existence of a 'business connection' arising out of parent-subsidiary relationship will not give rise an assessment, nor will the fact that the parent company might exercise control over the affairs of the subsidiary.'
8. Under item (ii) above, the Board has clarified that where a non-resident parent company sells goods to its Indian subsidiary, the income from the transaction will not be deemed to accrue or arise in India under section 9, provided three conditions are satisfied :
(i) the contract to sell are made outside India which on the finding of the Tribunal has been found in the instant case in favour of the non-resident company;
(ii) the sales are made on a principal-to-principal basis and at arm's length - an aspect on which Mr. Joshi wanted us to consider the matter in the light of the facts and circumstances of the case; and
(iii) the subsidiary does not act as an agent of the parent - again an aspect which will have to be considered in view of the facts and circumstances obtained in the instant case. There is no doubt that the Indian subsidiary is a hundred per cent. subsidiary of the non-resident, but the Tribunal has found as a fact that all the contracts regarding the have been made in U.K. principally on the basis that the indents which were placed by the India subsidiary with the non-resident company were accepted by the non-resident company in U.K. The Tribunal has also found that the contracts were even excited by the U.K. company outside India and this was principally based upon the position that by posting the documents the non-resident company had really parted with the goods, inasmuch as once the goods were put on the ship there was no reservation of right of disposal in the goods by the non-resident. The only question that need be considered by us is whether the transactions between the non-resident company and the Indian subsidiary are the transactions between principal-to-principal and whether the subsidiary company could be said to have acted as an agent of the non-resident company in the matter of effecting sales of its products in India. On both these aspects certain facts are clearly indicative of the fact that the transactions were between principal and principal and that even in the matter of sales that were effected by the Indian subsidiary company in India it did not act as an agent of the non-resident company. In this behalf the first significant aspect which has been found by the Tribunal is that pursuant to indents placed by the Indian subsidiary the products are not merely supplied by the non-resident company to the Indian subsidiary but are actually sold to the Indian subsidiary at certain prices which are c.i.f. prices. In other words, what is charged by the non-resident to the Indian subsidiary is the price and the transaction are not of the nature that there is supply of goods by the non-resident company to the Indian subsidiary company on the basis of any commission or otherwise or for any other similar consideration. Secondly, the Tribunal has found that the Indian subsidiary is effecting sales of its products on its own account in India through its head office and its branches at several places in India and, what is more, the Indian subsidiary is taxed on the profits so made by it on its turnover in India. It is, therefore, clear that the transaction between the non-resident company and the Indian subsidiary company must be regarded as transactions between principle-and-principal and not as between principal and agent and that the Indian subsidiary could never be regarded as effecting the sales in India as an agent of the non-resident company.
9. In this view of the matter, it seems to us clear that in view of the illustrative instances and guidelines furnished by the Board under its aforesaid circular, there is no scope for applying the provisions of section 42(3) of the Act. In the result, the question referred to us is answered in the negative and in favour of the assessee.
10. Revenue will pay the costs of this reference to the assessee.