1. This is a petition under Articles 226 and 227 of the Constitution of India.
2. Petitioner is a limited company duly registered and incorported under the Companies Act. It carries on the business of manufacture and sale of graphite electrodes, graphite anodes and other allied products and has its factory at Mandideep, Bhopal, Madhya Pradesh. Petitioner is assessed to income-tax at Indore in the status of a company.
3. Petitioner-company entered into an agreement (annex. A)' with a French company, M/s. LA SOCIETE DES ELECTRODES ET REFRACTORIES SAVOIE (hereinafter referred to as 'M/s. SERS'), on November 26, 1973, for availing of the improved technique and know-how of the said French company. This agreement was duly approved by the Govt. of India. Petitioner-company had been using furnaces for preparation of electrodes etc., but the foreign collaborators, M/s. SERS, had developed a new design of furnaces for baking and graphitisation. The adoption of this new design of furnaces developed by the French company would have improved the quality of the products of the petitioner-company and provided them better prospects in the global market. The petitioner, therefore, requested M/s. SERS to supply them the drawings and designs of their furnaces. M/s. SERS, vide their letter dated February 4, 1980 (annex. B), informed the petitioner that drawings and designs would be made available but since the baking and graphitisation furnaces existing in the petitioner's plants were different from those provided in the plants in the continent, detailed engineering of the same would have to be carried out before the petitioner could adopt the modified designs in its plants at Mandideep. M/s. SERS in their said letter demanded payment of 1,00,000 FF (French Francs) for the said supervision cost and detailedengineering work to be done in France by the senior technical staff of M/3. SERS and asked the petitioner to obtain the Government's approval for the same.
4. Petitioner accordingly applied to the Ministry of Industries, New Delhi, for an approval of the said payment. The Ministry by its letter dated February 28, 1961, granted approval to the said payment of 1,00,000 FF to M/s. SERS subject to payment of Indian taxes. The petitioner sought clarification in respect of the condition about payment of Indian taxes and the Central Government clarified the position, vide letter dated August 24, 1981, stating that the said payment covered only supervision charges and not the cost of designs and drawings and the approval had been granted in terms of the foreign collaboration agreement (annex. A).
5. Petitioner also manufactures large diameter electrodes but the same were not acceptable in the international market unless they were first subjected to furnace trials and were found fit. Petitioner, therefore, consulted M/s. SERS in this behalf and M/s. SERS, vide their letter dated October 7, 1980 (annex. E), agreed to conduct the furnace trials of the petitioner's products in France on payment of 25,000 FF per year as testing fees. Petitioner sought approval for this payment also from the Ministry of Industries, New Delhi, and permission was accorded, vide letter dated January 15, 1981.
6. Petitioner after obtaining approval of the Central Govt. for the payment of above amounts sought to remit the same to M/s. SERS. Permission of the Reserve Bank of India was necessary before making such remittances to a foreign company and for obtaining this permission a no objection certificate (NOC) from the I.T. Dept. had to be forwarded to the Reserve Bank. Petitioner applied to respondent No. 1 for grant of the said no objection certificate in respect of the two remittances to be made to M/s. SERS of France. Respondent No. I by his order dated June 20, 1981 (annex. J), directed the petitioner to deduct income-tax out of the said remittances as a condition for issuance of the NOC. Respondent No. 1 observed that the payments in question did not constitute 'industrial or commercial profits' within the meaning of Clause v of Article III of the Agreement for Avoidance of Double Taxation (ADT) between India and France and, therefore, the same were chargeable to income-tax in India. Petitioner approached the Commissioner of Income-tax (respondent No. 2) for a reconsiderstion of the matter, but respondent No. 2 rejected the prayer and directed the petitioner to deduct income-tax from the amount of remittances, by his order dated August 12, 1981 (annex. L). Petitioner has sought a writ of certiorari for quashing these orders (annexs, J & L) passedby respondents Nos. 1 and 2 respectively. It has also sought a writ of mandamus to direct respondents Nos. 1 and 2 to issue the necessary NOC without claiming deduction or payment of tax on the said remittances to M/s. SERS.. The grounds on which these orders are impugned are as follows:
According to the petitioner the aforesaid payments being for technical services and for services in the nature of supervision charges, were excluded from the term 'industrial and commercial profit' under Clause v of Article III of the ADT and, therefore, were not liable to tax in India. These payments fell under Articles XV and XVI of the ADT and, therefore, no income-tax was payable thereon in terms thereof. The respondents had the statutory duty to issue the NOC so that the remittances could be made through the Reserve Bank.
7. The main ground advanced by respondents Nos. 1 and 2 in support of the impugned orders (annexs. J & L) is that the said remittances for which NOC was sought by the petitioner were neither industrial nor commercial profits nor fees for technical services but were by way of an additional payment of 'royalty' for getting improved designs within the original foreign collaboration agreement and, therefore, were liable to tax. Respondents denied that the payments in question fell under Article XV or XVI of the ADT. Thus, according to the respondents, the payments being royalties payable to the foreign collaborator, were liable to tax deduction at source and the NOC could be given to the petitioner only after the tax was paid.
8. In the light of the pleadings of the parties the only question which arises for consideration is whether the remittances sought to be made by the petitioner to the French company, M/s. SERS, could be treated as 'royalties' to be brought to tax under the I.T. Act. Section 90 of the I.T. Act, 1961, provides for agreements with foreign countries for avoidance of double taxation of income under the Act. An agreement under this section between the Govt. of India and the Government of the French Republic was entered into on February 18, 1970. This has been referred to as Agreement for Avoidance of Double Taxation between India and France (ADT). Admittedly the remittances covered by this agreement to France will not be subjected to tax in India provided the conditions mentioned therein are fulfilled. As already observed, respondents Nos. 1 and 2 conceded that the order passed by the IAC (respondent No. 1 dated June 20, 1981, (annex. J) was erroneous inasmuch as the payments did not fall under Article III of the ADT. But it was contended that the said payments were covered under Article VII of the ADT as they constitute 'royalties' payable by the petitioner to its French collaborators,M/s. SERS. On the other hand the petitioner contended that the said remittances fall under Article XI or XVI of the ADT and not under Article VII.
9. To appreciate the rival contentions, it will be proper to reproduce the relevant articles (76 ITR (St.) 1, 5):
'Articles V1I.--(1) Royalties derived by a resident of one of the Contracting States from sources in the other Contracting State may be taxed in both the Contracting States.
(2) In this article, the term 'royalties' means payments of any kind received as consideration for the use of, or for the right to use, any copyrights of literary, artistic or scientific works, cinematographic films. patents, models, designs, plans, secret processes or formulae, trade marks or for the use of, or for the right to use, industrial, commercial or scientific equipment or for information concerning industrial, commercial or scientific experience, but does not include any royalty or similar payment in respect of the operation of mines, quarries, or other places of extraction of natural resources.'
'Article XV.--(1) Income derived by a resident of a Contracting State in respect of professional services or other independent activities of a similar character shall be subjected to tax only in the Contracting State where such services or activities are performed.
(2) Income derived by public entertainers, such as theatre, motion picture, radio or television artistes and musicians, and by athletes, from their personal activities as such shall be subjected to tax only in the Contracting State in which such activities are exercised.'
'Article XVI.--Amounts paid by an enterprise of one of the Contracting State for technical services furnished by an enterprise of the other Contracting State shall not be subjected to tax in the first-mentioned Contracting State except in so far as such amounts are attributable to activities actually performed in the first-mentioned Contracting State. In computing the income so subjected to tax, there shall be allowed as deductions the expenses incurred in the first-mentioned Contracting State in connnection with the activities performed in that Contracting State.'
10. It was not in dispute that under the original agreement of collaboration dated November 26, 1973 (annex. A), described as 'patents and know-how licence agreement', the foreign company had agreed to make available the patents of its furnaces to the petitioner and royalty was charged for the petitioner's right to use the said patents and know-how of the French company. On remittances of this royalty, admittedly, tax was deducted at source. But we have to examine whether paymentssought to be remitted to the French company for the services mentioned in their letter dated February 4, 1980 (annex. B), and 7th October, 1980 (annex. E), could be treated as royalties or payments for 'technical services' or 'professional services' within the meaning of Articles XV and XVI of the ADT, respectively.
11. The petitioner and the French company had already entered into an agreement for transfer of patents and know-how, vide, annex. A. But the furnaces for baking and graphitisation, the patents and know-how of which was made available to the petitioner, were of different design. The French company, therefore, wrote to the petitioner:
'However, since the baking and graphitisation furnaces provided in your plant are different than those provided in our plants in the continent, detailed engineering of the same will have to be carried out prior to your adopting the modified design of your plant at Mandideep. The cost of detailed engineering at our end would amount to FF 1,00,000 and we would like to get Government approval before we start working on it.'
12. We have reproduced above the relevant excerpts from the letter sent by the French company to the petitioner. These excerpts in the context of the pntire letter and the earlier agreement (annex. A) clearly indicated that the charge was made by the French company not as consideration for the use of its patents or for information or know-how but for such technical or professional services which were necessary to enable the petitioner to adopt the modified design in the. existing furnaces used by the petitioner. These technical services were described as 'detailed engineering' in the letter sent by the French company, on 4th February, 1980. This technical advice was necessary for enabling the petitioner to modify its furnaces so as to make them workable under the patents and know-how made available to the petitioner by the French company, vide agreement (annex. A). This transaction did not fall within Article VII of the ADT. It squarely fell within Article XVI of the ADT.
13. Similarly, with regard to the payment of FF 25,000 in a year by the petitioner to the French company, it was clear that the amount was payable for technical services and, therefore, did not amount to royalty. Reference may be made to the letter dated 7th October, 1980 (annex. E), sent by M/s. SERS to the petitioner. In this letter the French company wrote as under:
We confirm that your large diameter electrodes are not acceptable on the international market and we have to conduct furnace trials with your electrodes--at your cost--in French plants. Then we require two pieces with nipples every month of 400 or 450 mm diameter electrodes.
Unless this is done over a long period of time in France your larger diameter electrodes will not find export outlets. For conducting this test we shall charge you FF 25,000 in a year.'
14. Petitioner-company was already producing large diameter electrodes. But the same were not acceptable in the international market unless they conformed to the tests necessary for their acceptability. These tests could be conducted by the French company in France so that after passing the test trials, the same could be acceptable in the international market. For such technical services of conducting furnace trials in France, the French-company charged the petitioner FF 25,000 in a year. Clearly this payment could not be termed as 'royalty' within the meaning of Article VII of the ADT. This payment was towards technical or professional services and fell within Article XV or XVI of the ADT.
15. Thus, in view of Article XVI and to some extent Article XV of the ADT, the payments were not taxable to income-tax in India and respondents Nos. 1 and 2 were not empowered to withhold the NOC on the ground that tax on these remittances had to be deducted and paid in India.
16. The petition, is, therefore, allowed. Orders dated June 20, 1981, and August 12, 1981 (annexs., J & L), passed by respondents Nos. 1 and 2 respectively are hereby quashed and respondents Nos. 1 and 2 are directed to issue the necessary NOC without insisting on any deduction or payment of tax in respect of these two remittances of FF 1,00,000 and FF 25,000 to M/s. SERS of France. Costs of this petition will be borne by the respondents. Counsel's fee Rs. 250.