Global Tax Alert | 21 January 2014
India’s Delhi Tribunal rules sales promotion activity of Liaison Office is taxable
This Tax Alert summarizes a recent ruling of India's Delhi Income Tax Appellate Tribunal (Tribunal) in the case of Brown & Sharpe INC,1 (Taxpayer) on the taxability of sales promotion activities carried out by a Liaison Office (LO) on behalf of its Head Office (HO). The Tribunal ruled that the LO was engaged in promoting sales in India and, hence, income attributable to the LO is taxable in India.
The Taxpayer is a US company that set up an LO in India with the Reserve Bank of India (RBI) approval. The RBI approval was granted on the condition that the LO would not render any services, directly or indirectly, in India.
The Taxpayer contended that the RBI never alleged that it violated the conditions put forth. The LO was established only as a communication channel between the Taxpayer and its customers or prospective customers in India. The LO did not render any service for the procurement of order or sale of the product in India. Hence there was no income earned in India. In this regard, the Taxpayer referred to various decisions like Angel Garment Ltd.,2 U.A.E. Exchange Centre Ltd.,3 and K.T. Corporation,4 among others. Furthermore, the payments made to the LO were merely reimbursement of expenses incurred by the LO on behalf of the Taxpayer. Hence, it cannot be liable to tax in India.
The Tax Authority contended that the LO was not merely a communication channel but it was also promoting the Taxpayer's product brands in India, which was evident from the fact that the performance incentive of LO's employees was calculated on the basis of the number of orders received by the Taxpayer. Additionally, the Taxpayer was also registered with the Registrar of Companies in India and had filed a return of income claiming loss under the head “Profits and gains of business or profession,” which shows that the Taxpayer itself believes that it derives income from business in India. Thus, income attributable to the LO in India should be taxable in India.
The Taxpayer appealed to the Tribunal.
The LO was engaged in promoting the Taxpayer's product brands in India. Other than the Chief Representative Officer, the LO had also appointed a Technical Support Manager. The employees of the LO were offered a sales incentive plan as per which they were to be provided with remuneration, based on the achievement of the sales target of the Taxpayer in India.
The Taxpayer was registered with the Registrar of Companies for carrying on business in India. It had also, on its own volition, filed a return of income declaring loss under the head “Profits and gains of business or profession.” Thus, the Taxpayer itself has taken a stand that it derives income from business in India.
In the decisions relied upon by the Taxpayer, the activities which were held to be of a preparatory and auxiliary nature were as follows:
- •UAE Exchange Centre (supra) - LO was downloading information contained in the main server located in the UAE;
- •Angel Garment Ltd. (supra) - LO was collecting information and sample of garments and textiles which was passed on to its HO and it acted as a communication channel between the HO and its customers;
- •K.T.Corporation (supra) – LO was merely holding seminars, conferences, receiving trade enquiries, collecting feedbacks and advertising the technology used by its HO.
However, in the present case, the employees were promoting the sale of the Taxpayer's goods in India. Thus, income attributable to LO is taxable in India.
There is no doubt that the reimbursement of expenses can, under no circumstances, be treated as income. The LO, however, has received, on a year-on-year basis, an amount exceeding the expenses actually incurred by it on behalf of the Taxpayer. Thus, the amount over and above the expenses has to be treated as income.
Establishing an LO in India is one of the modes available for a foreign company for setting up an initial presence in India. The exchange control regulations in India permit setting up of an LO, among others, for the purpose of (i) representing the parent/group company in India, (ii) promoting export/import from or to India, (iii) promoting technical collaboration of parent company with Indian companies and (iv) acting as a communication channel between the parent company and Indian companies. In most cases, LOs are set up to provide information about the Indian market to their overseas HO.
In terms of applicable exchange control regulations, an LO is not permitted to perform commercial, trading or industrial activities and should maintain itself out of inward remittances received from its HO. Thus, an LO may not earn income in India. From a tax treaty perspective, the activities that are permitted to be carried on by an LO in India under the exchange control regulations may generally be regarded as “preparatory and auxiliary” in nature. Hence, even though an MNC may establish an office in India in the form of an LO, it may not be regarded as constituting a Permanent Establishment in India. However, actual conduct of an LO will need to be determined with respect to the exclusions provided under the applicable tax treaty to arrive at a definitive conclusion. Whether or not the activities of an LO is preparatory and auxiliary has been a subject matter of investigation and debate.
The present ruling indicates that where the LO engages in promoting the product range of the HO, its activities may not be regarded as being of a preparatory or auxiliary in nature, so as to be excluded from taxation in India.
1. [ITA No. 2015/Del/2008, 2435/Del/2010, 5026/Del/2011].
2. [287 ITR 341 (AAR)].
3. [313 ITR 94]. See EY Tax Alert, Delhi HC on whether a liaison office can create a PE, dated 27 February 2009.
4. [181 Taxman 94]. See EY Tax Alert, AAR rules on whether a liaison office can constitute a permanent establishment, dated 2 June 2009.
For additional information with respect to this Alert, please contact the following:
Ernst & Young LLP (India), Mumbai
- •Sudhir Kapadia
+91 22 6192 0900
Ernst & Young LLP (India), Hyderabad
- •Jayesh Sanghvi
+91 40 6736 2078
Ernst & Young LLP (United Kingdom), Indian Tax Desk, London
- •Nachiket Deo
+44 20 778 30862
Ernst & Young Solutions LLP, Indian Tax Desk, Singapore
- •Gagan Malik
+65 6309 8524
Ernst & Young LLP, Indian Tax Desk, New York
- •Tejas Mody
+1 212 773 4496