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Commissioner of Income-tax Vs. Atlas Steel Co. Ltd. - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtKolkata High Court
Decided On
Case NumberIncome-tax Reference No. 92 of 1976
Judge
Reported in(1986)56CTR(Cal)73,[1987]164ITR401(Cal)
ActsIncome Tax Act, 1961 - Sections 5(2) and 9
AppellantCommissioner of Income-tax
RespondentAtlas Steel Co. Ltd.
Appellant AdvocateA.C. Moitra and ;Sunil Kumar Mukherjee, Advs.
Respondent AdvocateDebi Pal and ;Pronab Pal, Advs.
Cases Referred(e) Bharat Heavy Plate & Vessels Ltd. v. Addl.
Excerpt:
- dipak kumar sen, j.1. the facts found or admitted in the above reference and the proceedings leading up to the same are, inter alia, as follows:2. atlas steel co. ltd., the assessee, is a non-resident company incorporated under the laws of and located in, canada.3. an agreement in writing dated september 12, 1961, was entered into by and between hindusthan steel ltd., ranchi, a government of india undertaking and one atlas steel company limited, another non-resident company.4. by a subsequent agreement also in writing dated november 14, 1962, entered into amongst the said atlas steel co. ltd., the assessee, hindusthan steel ltd. and one rio algon lines ltd., another nonresident company, the rights and liabilities of atlas steel co. ltd., under the earlier agreement dated september 12,.....
Judgment:

Dipak Kumar Sen, J.

1. The facts found or admitted in the above reference and the proceedings leading up to the same are, inter alia, as follows:

2. Atlas Steel Co. Ltd., the assessee, is a non-resident company incorporated under the laws of and located in, Canada.

3. An agreement in writing dated September 12, 1961, was entered into by and between Hindusthan Steel Ltd., Ranchi, a Government of India undertaking and one Atlas Steel Company Limited, another non-resident company.

4. By a subsequent agreement also in writing dated November 14, 1962, entered into amongst the said Atlas Steel Co. Ltd., the assessee, Hindusthan Steel Ltd. and one Rio Algon Lines Ltd., another nonresident company, the rights and liabilities of Atlas Steel Co. Ltd., under the earlier agreement dated September 12, 1961, were assigned to Atlas Steel Co. Ltd., the assessee.

5. The said agreement dated September 12, 1961, was a technical collaboration agreement. Hindusthan Steel Ltd. intended to establish a plant in India for manufacture of special types of steel, viz., tool alloy stainless steel and heat resisting steel. Atlas Steel Co. Ltd. was carrying on the business of manufacture of such steel and in connection with such business owned and used inventions, patents, applications for patents and had both secret knowledge and know-how relating to the manufacture of such steel contained, inter alia, in formulae, standards, processes, technical and other data owned by it.

6. Under the said agreement dated September 12, 1961, Atlas Steel Co. Ltd. agreed to make available to Hindusthan Steel Ltd., such secret knowledge and know-how and grant to the latter leave and licence to use such knowledge and know-how including inventions, patents and applications for patents on payment of a stipulated consideration.

7. Under the said agreement, Hindusthan Steel Ltd. also appointed the assessee as its production adviser during the term of the agreement for the operation of the plant proposed to be set up by Hindusthan Steel Ltd., in India and the training of the personnel of Hindusthan Steel Ltd. against consideration for a period stipulated in the agreement.

8. The material terms and conditions of the said agreement are noted hereafter as follows:

(a) In consideration of the payment by the company (Hindusthan Steel Ltd.) to Atlas (the assessee) of the gross amount which, after the deduction of all Indian taxes thereon, will result in Atlas receiving the net amount of three million four hundred thousand dollars ($. 3,400,000) Canadian funds, payable at the time and on the terms and conditions hereinafter provided, Atlas agrees that, subject to the provisions hereof, it will provide and make available to the company for the exclusive use of the company in India during the term of this agreement (and the nonexclusive use of the company in India thereafter) and does hereby grant to the company the exclusive leave and licence during the term of the agreement (and the non-exclusive leave and licence thereafter) to use within India all inventions, patents, applications for patents and secret knowledge and know-how (which secret knowledge and know-how includes the information disclosed in formulae, standards, processes and technical and other data) which Atlas now owns relating directly to the manufacture of the steels contemplated in the project report;

(b) Atlas shall supply to the company, free of additional cost to the company, an adequate number of (not exceeding six) copies of all written formulae, standards, processes and technical and other data referred to in paragraphs 3, 3.1 and 7;

(c) Subject to the conditions contained in this agreement, the price referred to in paragraph 3 which is payable by the company to Atlas in Canadian funds shall be payable in instalments as follows ;

(d) The gross amount which, after deduction of all Indian taxes thereon, will result in Atlas receiving the net amount of five hundred thousand dollars ($ 500,000), payable upon the execution of this agreement ;

(e) The gross amount which, after deducting all Indian taxes thereon will result in Atlas receiving the net amount of eight hundred thousand dollars ($ 800,000), payable within two years from the date of execution of this agreement; and

(f) Six further instalments each of which shall be the gross amount which, after deducting all Indian taxes thereon, will result in Atlas receiving the net amount of three hundred and fifty thousand dollars ($ 350,000), the first of such instalments shall be payable four and one-half years after the date of execution of this agreement and the other five such instalments will be payable on the first, second, third, fourth and fifth anniversaries, respectively, of the date on which the first such instalment is payable;

(g) The company hereby appoints Atlas as production adviser during the term of this agreement for the purpose of advising the company during that term with respect to the operation of the plant and the training of the company's personnel as hereinafter provided ;

(h) Subject to the overall responsibility of the company's consultingengineers, Atlas shall in the performance of its duties review the followingmatters and report to the company with respect thereto ;

(i) The project report of the company's consulting engineers dated July, 1960, and consisting of four volumes; and

(j) The commissioning and trial operations of the plant units.

(k) Atlas agrees to give at its works at Welland, Ontario, Canada, theoretical and practical training in technical and plant operations to the company's personnel selected by the company......

Atlas shall prepare training schedules for the training of such personnel at its works and shall submit such schedules to the company.

(l) In the performance of its duties hereunder, Atlas shall:

(i) Arrange for the visit to India of a senior executive as Atlas considers necessary or desirable to carry out the purposes of this agreement, such visits having a duration of one week in India on an average and averaging once in three to four months during the pre-production period, to hold discussions with the top management of the company. The company shall bear the travelling expenses of the senior executive from Canada to India and back, as his travelling expenses within India.

(ii) Make available in India from time to time as required prior to the commissioning of the plant, representatives who, subject to the overall responsibility of the company and the company's consulting engineers, shall advise the company and the company's consulting engineers with respect to the following as specified.

(m) Subject to the provisions contained in this agreement, the company shall pay to Atlas a fee in Canadian dollars for the performance of its service and obligations as production adviser to the company under paragraphs 4 to 4.4 inclusive of this agreement. The fee shall be the gross amount which, after deducting Indian income taxes thereon will result in Atlas receiving the net amount of one million six hundred thousand dollars ($ 1,600,000) Canadian funds which amount shall be payable as follows :

(n) At the end of each period of six months during the period of six years following the commencement of commercial production in the company's plant (being a total of twelve such periods of six months each) the net amount (after Indian taxes) of seven dollars ($ 7.00) Canadian funds for each metric tonne of finished saleable steel of acceptable quality produced in the company's plant during that period of six months (whether actually sold or not); and

(o) Subject to paragraph 4.55, within three months, after the end of each production year (as hereinafter defined) the net amount (after Indian taxes) equal to the excess, if any, of--

(a) the amount for that year as set out in the- table below (being based on the proposed production programme indicated in that table) over

(b) the amount for that year which has been paid by the company to Atlas under paragraph 4.51 based on the actual production for that year.

9. The term of this agreement shall be the period commencing on the date of execution of this agreement and terminating twelve years after the date of execution of this agreement or six years after the date of commencement of commercial production in the company's plant, whichever is the earlier.

10. In terms of the aforesaid agreement, Hindusthan Steel Ltd., paid to the assessee towards the secret knowledge and know-how, a sum of 800,000 Canadian dollars in September, 1963, in Canada. A set of papers containing processing, heating and inspection standards was made over to the General Manager of Hindusthan Steel Ltd. in Canada. Delivery of further copies of the said set was made in July and August, 1962, inter alia, by post.

11. In the assessment year 1964-65, the accounting period ending on December 12, 1963, the Income-tax Officer assessed the assessee to income-tax. He held that 20% of the said payment made in Canada could be attributed to other services to be rendered by the foreign collaborator outside India and the same having been received outside the taxable territory was not taxable in India. The balance 80% of the receipts was held to be attributable to royalty and use of secret formula and designs in India. For expenses incurred in respect of the same, the Income-tax Officer allowed a deduction on 12 1/2% of the 80% balance and held that 560,000 Canadian dollars were taxable in the hands of the assessee. Inasmuch as the agreement provided that taxes in India would be paid by Hindusthan Steel Ltd., the Income-tax Officer grossed up the amounts and held that 1,119,996 Canadian dollars was the receipt of the assessee taxable in India. In rupees, the amount of taxable income was computed at Rs. 54,60,938.

12. Being aggrieved, the assessee preferred an appeal before the Appellate Assistant Commissioner. The Appellate Assistant Commissioner found that the delivery of the know-how took place partly in Canada and partly in India. By construing the agreement, he held further that a part of the said amount paid in Canada had to be treated as the income of the assessee, a non-resident, as the same must be deemed to have accrued to the assessee as a result of the latter's business connection in India. As such, the same was taxable in India under Section 5(2) read with Section 9 of the Income-tax Act, 1961. This conclusion was arrived at after construing the different clauses of the agreement and the facts and circumstances of the case. It was held that it would be reasonable to apportion the total amount paid in the proportion 60 : 40 between the income accruing in India and that accruing outside India.

13. The income under the head of supply of know-how was accordingly directed to be computed at 400,000 Canadian dollars. The grossing up of the income of the assessee was also upheld on the basis that Hindusthan Steel Ltd., had undertaken to pay tax on behalf of the assessee.

14. Being aggrieved, the assessee preferred a further appeal before the Income-tax Appellate Tribunal. Before the Tribunal, it was contended on behalf of the assessee, inter alia, that even if the said amount of 800,000 Canadian dollars was considered as a trading receipt in the hands of the assessee, it could not be taxed in India under Section 5(2) read with Section 9(1) of the Income-tax Act, 1961, since no part of it had accrued directly or indirectly through any business connection of the assessee in India and further that even if the receipt was attributable to any business connection in India, no part of it was attributable to any operation carried out by the assessee in India and, therefore, the said receipt was not taxable by reason of the Explanation tinder the said Section 9(1)(i) of the Act. It was contended that the said amount was paid in part payment of the consideration of 3,400,000 Canadian dollars for supply of the know-how specified in Clause 3 of the agreement. It was contended that no patents were supplied by the assessee to Hindusthan Steel Ltd. during the relevant year and the entire amount paid represented part consideration for obtaining technical know-how. It was contended that considerasion for services to be rendered was separate and was covered by separate clauses of the agreement.

15. A circular of the Central Board of Direct Taxes, viz., Circular No. 21 of 1969 dated July 9, 1969 [1969] 73 ITR 19, was relied on by the assessee. It was laid down in the said circular that if an amount received by a foreign participant was a revenue receipt and the amount was received outside India, the further questions that would arise were whether the payment was for services rendered abroad or for services rendered in India and whether such payment was on account of royalty. If the amount received by the foreign participant was for services rendered outside India, the same would not be subject to tax in India because the income would be accruing to a non-resident outside India.

16. It was contended on behalf of the Revenue that under the agreement between the parties, some services were to be rendered by the assessee in India and, therefore, the business connection of the assessee in India was established. Therefore, nothing turned on the fact that the know-how was parted with outside India.

17. The Tribunal found that payment of the consideration under Clause 3 of the agreement for supplying know-how to Hindusthan Steel Ltd. and the payment of consideration provided separately under Clause 4 of the agreement for services to be rendered by the assessee partly in India and partly in Canada were separate and distinct payments. The Tribunal held that these payments had to be examined separately for the purpose of determining whether the same were taxable. The Tribunal concurred with the view of the Central Board of Direct Taxes contained in its letter dated 24/25th November, 1961, on this question. The Tribunal held that to hold otherwise will be to rewrite the agreement between the two parties, to lump the two payments together and to treat it as a single consideration.

18. The Tribunal held further that so far as the payment for obtaining know-how was concerned, no part of the receipt was attributable to any business connection of the assessee in India and, therefore, the question of apportionment of receipt between operations carried out in India and operations carried out outside India under Explanation (a) of Section 9(1)(i) did not arise. The contentions of the assessee were accepted by the Tribunal and it was held that the said payment for obtaining the know-how was not for any services to be rendered in India and, therefore, not relatable to any business connection of the assessee in India and as such not taxable.

19. On an application of the Revenue under Section 256(1) of the Income-tax Act, 1961, the following question has been referred by the Tribunal as a question of law arising out of the order of the Tribunal for the opinion of this court:

'Whether, on the facts and in the circumstances of the case and on a proper interpretation of the technical collaboration agreement dated 12th September, 1961, the Tribunal was right in holding that no part of the sum of $. 800,000 Canadian dollars received by the assessee from Hindusthan Steel Ltd. accrued or arose from any business connection in India and was, therefore, not includible in the total income of the assessee, a non-resident, under Section 5(2) read with Section 9(1) of the Income-tax Act 1961'?

20. At the hearing before us, the learned advocate for the Revenue drew our attention to the relevant sections of the Income-tax Act, 1961, the material portions whereof are noted as follows :

21. Section 5(2) 'Subject to the provisions of this Act, the total incomeof any previous year of a person who is a non-resident includes all incomefrom 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.'

22. Section 9(1) 'The following incomes shall be deemed to accrue or arise in India--

(i) all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India, or through the transfer of a capital asset situate in India.

Explanation.--For the purposes of this clause--

(a) in the case of a business of which all the operations are not carried out in India, the income of the business deemed under this clause to accrue or arise in India shall be only such part of the income as is reasonably attributable to the operations carried out in India.'

23. The learned advocate also drew our attention to the various clauses of the said collaboration agreement some of which have been noted hereinbefore and contended that the agreement was a composite one and provided not only for the supply of know-how but also for services to be rendered by the assessee as production adviser to Hindusthan Steel Ltd. in India. It was contended that the agreement should be read as a whole and it must be held that by the said agreement, a business connection of the assessee was established in India. Any payment made under the said agreement would be receivable by the assessee by reason of such business connection and, therefore, whether the said payment was made in or outside India will make no difference and the said payment would be a revenue receipt taxable in the hands of the assessee. In support of his contentions, the learned advocate for the Revenue cited the following decisions :

(a) CIT v. R.D. Aggarwal and Co. : [1965]56ITR20(SC) .

Here, the assessee had canvassed orders from dealers in Amritsar for supply of goods and communicated such orders to certain non-resident exporters. The assessee had no authority to accept the orders on behalf of the non-residents but the assessee was entitled to a commission on the orders accepted and executed. Orders were accepted by a non-resident on the above basis. Delivery of supplies was made and price was received outside the taxable territory. No operation such as procuring raw materials or manufacture of finished goods took place within the taxable territory.

On these facts, it was held by the Supreme Court that there was no business connection of the assessee with the non-resident within the meaning of Section 42(1) of the Indian Income-tax Act, 1922 (corresponding to Section 9 of the Income-tax Act, 1961), and the assessee could not be treated as the agent of the non-residents for the purpose of taxing the profits of the non-residents from their export. The Supreme Court observed that the business connection as contemplated under Section 42 involved a relation between a business carried on by a non-resident and some activity in the taxable territories which contributed directly or indirectly to the earnings, profits or gains of such business. It predicated an element of continuity between the business of a non-resident and the activity in the taxable territory. An isolated or stray transaction would not normally be regarded as a business connection. The expression 'business' postulated a real and intimate relation between the trading activity carried on outside the taxable territory and the trading activity within the territory. The Supreme Court, however, observed that the question whether the income, profits or gains arose or accrued to a non-resident in India must be determined on facts and circumstances of each case.

(b) Blue Star Engineering Co. (Bombay) (P) Ltd. v. CIT : [1969]73ITR283(Bom) .

Here, a non-resident carrying on business in Holland used to import iron ore and manganese from India. Orders were placed directly with the Indian exporters who executed the exports and goods were delivered on board the ship against payment of price. In order to ensure the quality of the goods exported from India and for export within time, the non-resident entered into 'an arrangement with the assessee. Under the said arrangement, the assessee received copies of orders placed by the nonresident and supervised the execution of the contracts as to quantity, quality, time of delivery and transport of the exported goods up to delivery. The assessee also reported to the non-resident as to the financial stability of the exporters and the legality of the supplier. Remuneration was paid to the assessee by the non-resident for such services.

A question arose whether the non-resident had taxable income in India under Section 42 of the Indian Income-tax Act, 1922, and whether the assessee would be deemed to be agent of the non-resident under Section 43 of the said Act. On these facts, it was held by the Bombay High Court that the part played by the assessee under the arrangement resulted in an organisation set up by the non-resident in the taxable territory for the purpose of ensuring a regular and proper supply of materials. The part played by the assessee was a real and intimate part which contributed to the profits of the non-resident and prevented loss to the latter. It was held that there was a business connection between the non-resident and the assessee in the taxable territory and income earned through the said business connection was liable to be taxed under Section 42.

(c) CIT v. Tata Chemicals Ltd. : [1974]94ITR85(Bom) .

In this case, an agreement between the non-resident German concern and the assessee provided for payment of remuneration for services to be rendered by the non-resident. It was found by the Tribunal that such services were agreed to be rendered and were given outside the taxable territory and the payment for such services was paid in German currency. On these facts, it was held by a Division Bench of the Bombay High Court that such income was not taxable under Section 9 of the Income-tax Act, 1961. The fact that the assessee had credited the remuneration payable to the non-resident in its books did not affect the position.

(d) Carborandum Co. v. CIT : [1977]108ITR335(SC) .

In this case, the assessee, a foreign company, declared to be a company under Section 2(5A) of the Indian Income-tax Act, 1922, had entered into an agreement with an Indian company whereby the former agreed to render technical services and know-how to the Indian company in India which consisted, inter alia, of furnishing technical information and know-how in respect of certain products ; providing technical management including factory design, layout, plant and equipment, production, purchase of materials, manufacturing specifications and quality of product; furnishing comprehensive technical information of all developments in the manufacture of special products ; providing the Indian company with a resident factory manager and other technical personnel for starting the plant and superintending the operation during the initial production stage, training Indian personnel to replace foreign technical personnel.

In lieu of the aforesaid services, the assessee was to receive from the Indian company a fee on the basis of a percentage of the net sale proceeds of the products manufactured by the Indian company every year.

It was found as a fact that technical information had been furnished by post and that the foreign personnel made available by the assessee had been employed by the Indian company. On these facts, it was held by the Supreme Court that furnishing of technical information by post was a service rendered outside India and putting the information to use in India was not relevant. Foreign personnel lent or deputed by the assessee did not carry on any business activity on behalf of the assessee. The service in making available such foreign personnel was rendered by the assessee outside India. The Supreme Court held further that even assuming that there was any business connection between the earning of the fee and the business carried on by the Indian company in India, no part of such activity or operation could be said to have been carried on by the assessee in India. It was held that the fee paid did not accrue or arise nor could it be deemed to have accrued or arisen to the assessee in India.

(e) Bharat Heavy Plate & Vessels Ltd. v. Addl. CIT : [1979]119ITR986(AP) .

Here, an agreement was entered into by and between the assessee and a non-resident, a Czechoslovakian concern whereunder the non-resident agreed to supply machinery and equipment, etc., to the assessee and also to render technical co-operation for erection and construction of a plant for the assessee in India. The non-resident rendered consultancy services for the construction of the plant by deputing its employees to India whose salary was paid by the non-resident. The non-resident assigned to the assessee production rights as also the general and assembly drawings, technical information and other documents. A price for technical documentation and fee for consultancy services was fixed separately. On these facts, a Division Bench of the Andhra Pradesh High Court held that as the non-resident company had made available the services of its foreign personnel to the assessee in India, this, taken along with other facts, established a business connection between the non-resident and the assessee in India. The sale of machinery by the non-resident, it was held, could not be considered in isolation and in taking the transaction in its entirety, there was an element of continuity between the business of the non-resident and the Indian company.

(f) Barendra Prasad Ray v. ITO : [1981]129ITR295(SC) . In this case, an English barrister appeared before the Calcutta High Court in a case on behalf of a non-resident. After the hearing of the case, the barrister left India without making any arrangement regarding payment of income-tax in India on the fees earned by him. The Income-tax Officer initiated proceedings to treat the Indian solicitor on record as an agent of the English barrister for the purpose of taxing the latter's income earned in India. The solicitor concerned moved the High Court under Article 226 of the Constitution challenging the proceedings. On a final appeal to the Supreme Court, it was held that there was a connection between the English barrister and the Indian solicitor which was intimate and not a casual one and the barrister concerned had earned his fees by arguing the case in India through such connection. Such fees could not be earned unless the Indian solicitor allowed the barrister to argue the case and co-operated with him. Such connection between the Indian solicitor and the barrister was a business connection within the meaning of Section 9 of the Income-tax Act, 1961. The word 'business' was of wide amplitude and included a 'profession '.

(g) CIT v. Usha Martin Black (Wire Ropes) Ltd. : [1984]148ITR236(Cal) .

In this case, the assessee entered into an agreement with a non-resident foreign company for obtaining the services of the latter as a marketing consultant. It was found that the non-resident was to render such services outside India and the payments were remitted outside India. The documents and papers supplied were to be delivered outside India. The Indian company, however, was free to use the data and other material supplied in India but there was a restriction imposed on the assessee from sharing the same with others in India. On these facts, it was held by a Division Bench of this court that the royalty received on account of services rendered as a marketing consultant could not be taxed in India under Section 9 of the Income-tax Act, 1961, as the non-resident had not carried on any business activity in India. The fact that one of the clauses in the agreement provided that the non-resident would pay tax in India was not relevant as the liability to pay income-tax could not be created by an agreement. It was held that there was no business connection between the non-resident and the assessee in India.

24. The learned advocate for the assessee contended, on the other hand, that, in the instant case, the agreement provided for two things, viz., supply of know-how and rendering of services as production adviser, the same were distinct and separate and covered separately by distinct clauses of the agreement. One had no connection with and was not dependent on the other. The considerations for the said two were also separate and distinct.

25. The learned advocate contended that so far as know-how was concerned, the same had been supplied by the assessee in Canada by making over three sets of processing, heating and inspection standards to the representative of Hindusthan Steel Ltd. Further copies of the same were posted by the assessee in Canada to Hindusthan Steel Ltd. or its nominees in India. The delivery so far as the assessee was concerned was complete when the sets were posted. It was not in dispute that the payment was made in Canada in Canadian dollars to the assessee.

26. The learned advocate for the assessee contended that in making the delivery of the know-how, the assessee did not carry out any operation in India on the basis of which it could be contended that a business connection of the assessee in India had been established through which the asses-see supplied the know-how and obtained payment.

27. In support of his contentions, the learned advocate for the assessee cited the following decisions :

(a) CIT v. R.D. Aggarwal & Co. : [1965]56ITR20(SC) . This decision has been considered earlier.

(b) Carborandum Co. v. CIT : [1977]108ITR335(SC) . This decision has also been considered earlier.

(c) CIT v. Toshoku Ltd. : [1980]125ITR525(SC) . Here, in the relevant assessment year a dealer in tobacco in India purchased tobacco and exported it to Japan and France through non-resident sales agents who were, respectively, a Japanese company and a French business house. Under the agreement, the Japanese company was appointed as the exclusive sales agent in Japan for tobacco exported by the dealer in India and was entitled to commission of 3% of the invoice amount. The sale price received on the sale of tobacco in Japan was remitted to the dealer in India who debited his commission account and credited the amount of commission payable to the Japanese company in his books of account and later remitted the amount to the Japanese company. There was a similar agreement with the French business house. The question arose whether such commission earned by the non-resident sales agent could be taxed in India through the dealer, to be treated as a representative assessee under Section 161 of the Income-tax Act, 1961.

On these facts, it was held by the Supreme Court that the non-resident did not carry on any business operation in the taxable territory. They acted as selling agents outside India. The receipt in India of the sale proceeds of tobacco remitted by the foreign purchaser did not amount to any operation carried out by the non-resident in India within the meaning of the Explanation to Section 9(1)(i) of the Income-tax Act, 1961. The commission amounts which were earned could not be deemed to be income which had either accrued or arisen in India as the commission was earned by the services rendered outside. The Supreme Court held further that making of entries in the books in India in favour of the nonresident sales agent did not amount to a payment as the amounts credited were not at the disposal or control of the non-resident. The credit balance only represented a debt and a mere book entry did not secure a discharge from the debt. It was held that the non-resident agent could not be charged to tax on the basis of the receipt of income, actual or constructive, in the taxable territories.

(d) CIT v. Fried Krupp Industries : [1981]128ITR27(Mad) . In this case, an Indian company entered into an agreement with a foreign company for installation of a grey iron foundry. Under the agreement, the foreign company was to supply necessary equipments and technical data regarding the foundry and also for obtaining technicians to supervise the construction of the plant. Machinery were to be supplied or bought F.O.B. and the foreign company had also to supply drawings and provide supervision for erection of the foundry. The price for the technical cooperation and for the supply of drawings was to be paid in Germany. The entire technical collaboration and supply of drawings were to be carried out in the foreign country. The erection of the machinery and equipment was to be done by the Indian company under its own responsibility and the foreign company was required only to depute specialists to advise. The salary and emoluments of the engineers deputed by the foreign company were paid in India. On these facts, it was held by a Division Bench of the Madras High Court that there were no operations in India which were attributable to the foreign company which could give rise to any profits being earned in India. The three types of activities contemplated under the agreement did not result in any business connection in India. The types of activities were supply of machinery and spare parts which were on f.o.b. basis. No operation of the foreign company in India was contemplated. So far as deputation of foreign personnel for erection of machinery in India was concerned, the personnel became the employees of the Indian company and the foreign company was not responsible for the erection of the machinery as such. The Madras High Court held confirming the order of the Tribunal that there was no business connection of the foreign company in India as contemplated under Section 9 of the Income-tax Act, 1961, on the basis of which the money received by the foreign company could be taxed in India.

28. Lastly, the learned advocate for the assessee cited an unreported judgment of a Division Bench of this court in Appeal from Original Order No. 28 of 1976, intituted ITO v. Shriram Bearings Limited dated July 3, 1980 (since reported in : [1987]164ITR419(Cal) ). In this case, an Indian company, the respondent in the appeal had entered into a technical collaboration agreement with a non-resident company in Japan with the approval of the Governments of India and Japan. The said agreement was subsequently modified by two supplementary agreements. It was found that the original agreement consisted of two parts. Under the first part, the Japanese company agreed to sell to the Indian company its trade secrets including know-how relating to their products and manufacturing techniques. Such trade secrets or technical know-how included the right of use of patents and advice on plant lay-out and installation. The price for sale of such trade secrets had been fixed at a total figure payable in four instalments. It was further stipulated that the payment of the said sum would be free from Indian income-tax. It was in the contemplation of the parties that the transaction in respect of the transfer of trade secrets would take place in Japan. The second part of the agreement related to the rendering of technical assistance and training of personnel by the Japanese company. Under the said agreement, it was agreed that the Japanese company would train from time to time at its own plants in Japan employees or representatives of the Indian company in accordance with a programme. It was further agreed that the Japanese company would make available from time to time to the Indian company in India, employees or representatives of the Japanese company for rendering technical assistance and training the personnel of the respondent. Consideration for such service was fixed by way of royalty at stipulated rates on the net ex-factory realisation on all sales of the products manufactured and sold by the Indian company.

29. The question arose whether a payment of 1,65,000 U.S. dollars to the Japanese company for the purchase of trade secrets or know-how by the respondent attracted tax in India. The Income-tax Officer held that the receipt of the said amount by the non-resident has resulted in accrual of income in India as the technical know-how, designs, etc., were being exploited in India. The Income-tax Officer held that from the said amount, the respondent in India was required to deduct tax at source before remittance.

30. A revision application under Section 264 of the Income-tax Act, 1961, before the Commissioner of Income-tax was unsuccessful and, thereafter, the respondent moved this court under Article 226 of the Constitution. The said writ petition succeeded in the first court. On an appeal, a Division Bench of this court held, inter alia, that the agreement was a composite one but the two separate parts of the agreement covering two transactions, namely, sale of trade secrets and rendering of technical assistance and training of persons were not linked up or connected with each other. It was noted by the Division Bench that rendering of technical assistance and training of personnel had not been made a condition for the sale of trade secrets or vice versa. It was held that the only business operation or activity which was contemplated under the agreement was the rendering of technical assistance and training of personnel for remuneration for which provision was made in the agreement for payment of tax. It was held that the said part of the agreement had no connection with the payment to the Japanese company by way of consideration for the sale of trade secrets or know-how which had to be paid in Japan and wholly outside the taxable territory. In respect of the said sale, no activity or operation could be said to have been carried out by the non-resident companyin India. The appeal preferred by the Revenue was dismissed.

31. In the instant case, the agreement, as noted earlier, also consists of two distinct parts. The first part consists of supply of inventions, patents, applications for patents, secret knowledge and know-how. Such supply was to be made against a consideration of a lump sum to be paid in instalments. It has been found as a fact that the entire transaction relating to the said transfer of know-how and secret knowledge took place outside India. The other part of the agreement consisted of services to be rendered by the assessee as production adviser during the term of the agreement. The services to be rendered as such production adviser have been specifically provided for in the agreement and has been noted hereinabove. The said service for the stipulated period is to be given for a consideration of a lump sum payable in instalments. The agreement also provides that the said lump sum would be paid in net after deducting Indian income-tax leviable thereon.

32. The facts, in the instant case, are almost identical to the facts in the case of Sriram Bearings Limited : [1987]164ITR419(Cal) . The agreement is a composite one, but the two parts thereof, one relating to the supply of know-how and trade secrets and the other relating to service to be rendered as a production adviser are distinct and separate and are intended to be provided against distinct and separate considerations. The two parts of the agreement are not conditional upon each other.

33. It is apparent from the facts and circumstances that so far as the first part of the agreement is concerned, no operation was required or intended to be carried out by the assessee in India. In fact, the parties took trouble to formulate the agreement in such a way so that payment for the supply of trade secrets and know-how and other technical information was not made taxable in India. The transactions had taken place entirely outside India.

34. We note that only after the first part of the agreement is fulfilled, the question of Hindustan Steel Ltd. setting up its plant and manufacturing in India can start and only then the question of assessee acting as a production adviser in India could arise.

35. The expression 'business connection' in the context of the Income-tax Act has come to acquire a special meaning as laid down by the Supreme Court in R. D. Aggarwal & Co.'s case : [1965]56ITR20(SC) . A business connection contemplated under Section 42 of the Indian Income-tax Act, 1922 (corresponding to Section 9 of the Income-tax Act, 1961, involved 'a relation between a business carried on by a non-resident and some activity in the taxable territories which are attributable directly or indirectly to the earnings, profits or gains of such business'. It was laid down by the Supreme Court that there must be trading activity both outside and within the taxable territory. In the facts of this case, for the supply of inventions, patents, application for patents, secret knowledge and know-how, no trading activity had been or was required to be carried on by the assessee within the taxable territory. Further, on a consideration of the agreement, it cannot be said that the trading activity which was intended to be carried on by the assessee as production adviser of Hindustan Steel Ltd., in future was relatable to or connected with the past supply of the said know-how and other items.

36. The decision of a Division Bench of this court in Sriram Bearings Ltd's case : [1987]164ITR419(Cal) is binding on us and in any event we do not see any reason to take a contrary view.

37. For the reasons as stated above, we hold that the transaction under the first part of the agreement, namely, the supply of secret knowledge and know-how and the other items took place entirely outside India and the payment of the said amount of 800,000 Canadian dollars did not result in accrual of any income of the assessee within the taxable territories in India. We hold further that the second part of the agreement, namely, service to be rendered by the assessee as production adviser to Hindustan Steel Ltd. has no connection or relation with the first part relating to the supply of know-how and secret knowledge and the basis on which service is to be rendered by the assessee as the production adviser of Hindustan Steel Ltd. in India would not amount to a trading activity by the assessee in India to obtain payment in respect of supply of know-how and secret knowledge, etc.

38. For the reasons as aforesaid, we answer the question referred in the affirmative and in favour of the assessee.

39. In the facts and circumstances of the case, there will be no order as to costs.

Monjula Bose, J.

40. I agree.


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