Tax net widened for foreign firms working in India - ITAT on Linklaters

The Income Tax Appellate Tribunal (ITAT), Mumbai has found that Linklaters – the UK based law firm having its operations in India should pay income tax in India on all Indian profits after applying a retrospective amendment in section 9(1) of the Income Tax Act made by the Finance Bill 2010. This judgment is going against the latest decision in the Clifford Chance tax battle that is currently in the Indian Supreme Court.

This will result in tax demand of Rs 2.12 crores to Linklaters for the year 1995-1996. Apart from this, all previous India-billings of Linklaters or other such foreign firms would also now be covered by this decision.

Referring to the Ishikawajima Harima Heavy Industries Ltd. vs. DIT (288 ITR 408) case, the ITAT ruled:

"It is thus unambiguous that the judgment of Hon’ble Bombay High Court rests on the legal premises that, under section 9(1)(vii), “services, which are source of income sought to be taxed in India, must be (i) utilized in India; and (ii) rendered in India” and the conceptual premises that “territorial nexus for the purpose of determining the tax liability is an internationally accepted principle”.

"These legal premises, however, do no longer hold good in view of retrospective amendment w.e.f. 1st June 1976 in section 9 brought out by the Finance Act, 2010 […]"

"The conclusions arrived at by Their Lordships were thus entirely based on their reading of the scope of Section 9(1) of the Income Tax Act, but in view of the retrospective amendment in Explanation to Section 9(1), the scope of this provision does no longer permit the interpretation adopted by Their Lordships. The very conceptual foundation of Hon’ble Bombay High Court’s decision in the case of Clifford Chance (supra) ceases to hold good in law.  When the legal provisions considered in the judicial precedent, vis-à-vis the legal provisions prevalent when that precedent is sought to be applied, are not in pari materia, the judicial precedent cannot have precedence value.

"18. It is, therefore, free from any doubt that Hon’ble Bombay High Court’s judgment in the case of Clifford Chance is no longer good law, as there have been amendments in law in consonance with the school of thought discussed above and these amendment unambiguously negate the principle of territorial nexus which is the understructure of line of reasoning adopted by the Hon’ble Courts above.  It is no longer necessary that, in order to invite taxability under section 9(1)(vii) of the Act, the services must be rendered in the Indian tax jurisdiction  

"19. In view of the above discussions, we are of the considered view that the entire fees for professional services earned by the assessee, in connection with the projects in India and which is thus sourced from India, is taxable in India under the domestic law."

Linklaters had worked on twenty one Indian matters in 1995-96, of which fifteen were for the banks or financial institutions. Permanent establishment under the Double Taxation Avoidance Agreement (DTAA) between India and the UK arises once services are rendered on the ground in India for at least 90 days, which the AO found Linklaters had done.

"It was submitted that the income of the PE [permanent establishment] is computed on the basis of actual man hours devoted in India to a particular client and charged at the rates would have been charged by the Indian lawyers for similar services," said the ITAT but ruled that the actual fees charged by Linklaters should be the amount that is subject to tax.

The latest ruling follows Clifford Chance's Bombay High Court decision last year, in which it decided that only the fees that the firm incurred directly in India should be taxable in India.