AAR : Where FWGB incurs losses during the first year of operations.

Authority For Advance Rulings (Income-Tax), New Delhi

Foster Wheeler (G.B.) Ltd., In Re

Section : 9

Assessment Year 2009-10

Justice V.S. Sirpurkar, Chairman

A.K. Tewary And R.S. Shukla, Member

A.A.R. No. 1003 Of 2010

August 10, 2016

RULING

A.K Tewary, Member – The applicant Forster Wheeler (GB) Limited (FWGB) is a company incorporated in United Kingdom and is an international engineering construction and project management contractor and power equipment supplier. FWGB is engaged in large engineering projects. FWGB has been awarded a contract by Indian Oil Corporation Limited (‘IOCL’) for rendering the following onshore services at Paradip in connection with the Paradip Refinery:

(a) Construction support services and supervision services (i.e. Project Management Consultancy services (‘PMC’);

(b) Procurement services; and

(c) Engineering design services

In order to carry out the above project, FWGB has set up a project office in India i.e. Foster Wheeler (G.B) Limited Project Office (‘PO’) along with Site Offices (‘SO’) at Paradip, Orissa, Gurgaon and Haryana. The PO has been set up under the automatic route as per the Reserve Bank of India’s regulations in this regard. The PO has commenced raising invoices (both for services rendered and advance receipts) beginning the month of March 2009, which is in terms of the contract subsequently executed on April 24, 2009.

2. The applicant has raised the following questions:—

1. On the facts and in the circumstances of the case, would the proposal costs incurred by Foster Wheeler Energy Limited, UK (‘FWEL’) a Group Company, primarily including time charge of UK staff working on the bid, travel expenses, miscellaneous expenses like printing – charges to FWGB, be available as a deduction in computing the taxable income of the PO?

2. On the facts and in the circumstances of the case, whether the claim of deduction in relation to Head Office(‘HO’) expenses by FWGB can be subject to the limitation prescribed under section 44C of the Income- tax Act, 1961 (‘the Act’) in light of the non-discrimination clause under the India-United Kingdom Double Taxation Avoidance Agreement (‘DTAA’ or ‘the tax treaty’)?

3. If the answer to question 2 is in the affirmative, whether the said section 44C of the Act shall apply in the following cases:

Where FWGB incurs losses during the first year of operations.

Where in a given assessment year and the previous years preceding the relevant assessment year (referred to in Explanation (ii) to section 44C of the Act), FWGB incurs a loss.

4. If the answer to question 2 is in the affirmative, whether the cap specified under section 44C of the Act applies to direct technical expenses, incurred outside India by HO, that are directly identifiable to the activities of the PO?

5. On the facts and in the circumstances of the case, would there be a need to withhold taxes under the Act/India-UK DTAA by FWGB on:

Payments made to non-resident third party service-providers?  Or

Payments made to FWEL under the Inter Company Agreement for Services dated 29th April, 2009?

6. On the facts and in the circumstances of the case, whether any provision made for payment of liquidated damages to IOCL under the contract will be deductible while computing profits chargeable to tax?

3. During the course of hearing the applicant did not press Q. No. 2, 3 & 4. Therefore, the rulings are required to given only in respect of Q. No. 1, 5 & 6.

Question No.1

4. The question No.1 relates to proposal expenses. The applicant has stated that FWEL is a flagship company of the Foster Wheeler Group. FWEL spearheads the process for bidding for global engineering, procurement and construction contracts supported by a team of finance, legal and engineering professionals. Expenses towards the bid comprising of time charge of FWEL staff working on the bid, travel expenses (including flight charges, hotel charges etc) and printing cost pertaining to FWGB’s contract are charged to FWGB under an agreement between FWGB and FWEL. Therefore, the PO has claimed these expenses as a deduction in its return of income for AY 2009-10 under section 37 of the Income-tax Act.

Section 37 of the Act provides as follows:

‘Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession.”‘

5. According to the applicant the proposal costs, charged by FWEL to FWGB, are incurred wholly and exclusively for the purpose of the applicant’s projects in India and shall be allowable in the hands of the PO for the purposes of Income-tax Act.

6. The Department of Revenue has stated that the project works in India are undertaken by the Permanent Establishment of FWGB, U.K. Essentially, FWGB, U.K. (Head Office) should incur some expenditure, on account of certain works carried out in U.K., for the benefit of the project works in India, in order to qualify the expenditure as “Head Office expenditure”. However in this case the Head Office had not incurred any expenditure but some expenditure was incurred by one of the group concerns i.e. FWEL and as such, expenditure incurred by a third party cannot be allowed as a deduction, in computing the income of the project. The Revenue was asked by us to verify the genuineness of the expenditure. The Revenue in its report dated 20 November 2015 has after verification conceded that FWGB’s share of proposal costs [i.e. Rs. 4,79,33,690 (i.e. GBP 6,58,828)] has been charged to FWGB and FWGB has in fact paid the same to FWEL. This shows that FWEL had incurred such expenditure for the purpose of applicant’s projects in India. In view of this there is no reason to disallow such expenses as the same has been incurred for business purposes and we are of the opinion that such expenditures be allowed in the year in which it was incurred.

Question No.5

7. According to the applicant FWGB has made/would make certain payments to third party service providers outside India for services in connection with expatriate movement to India in relation to the PO and such payments would be in the nature of travel costs (e.g. Payments to travel agencies), vaccination costs (eg. Payments to medical facilities for vaccination), school fees, mobilization costs/expenses, visa fees, shipping costs, hotel costs, etc. Besides this, FWEL has incurred/would incur certain expenses relating to support services that are charged to FWGB under the inter Company Agreement for Services dated 29th April 2009 which primarily includes time cost of various departments including processing, procurement, legal services, human resources, finance division and such expenses attributable to PO’s activities are charged by FWEL to FWGB.

8. The applicant has submitted that the principle of India-UK DTAA would override the provisions of Income-tax Act and as per Article 13(4) of the DTAA fees for technical services means payment made as consideration for rendering technical or consultancy services that make available technical knowledge, experience, skill, know-how. Article 13 of the DTAA defines “fees for technical services” as follows:

“4. For the purposes of paragraph 2 of this Article, and subject to paragraph 5, of this Article, the term “fees for technical services” means payments of any kind of any person in consideration for the rendering of any technical or consultancy services (including the provision of services of a technical or other personnel) which:

(a) to (b); or**

(c) Make available technical knowledge, experience, skill know-how or processes, or consist of the development and transfer of a technical plan or technical design.”

The applicant has mentioned that services rendered by third party service provider do not make available technical knowledge, experience, skill, know- how etc and accordingly payments towards the same cannot be considered as fees for technical services and is not taxable in India. As regards payments made to FWGB, UK also for services provided by FWEL, UK the applicant has mentioned that FWEL, UK acts as the cost centre for the Group as a whole and therefore it is involved in providing the aforesaid services like administration, finance, human resources etc and the services rendered by FWEL do not fall under Article 13 of the India-UK DTAA, i.e. technical or consultancy services, as the same would be managerial in nature and, accordingly, taxability of such income is subject to provisions of Article 7 of the India-UK DTAA as business income. The applicant has further mentioned that as per Article 7 of the India-UK DTAA, business income shall be taxable in India only if there is a PE in India and since FWEL does not have a PE India in relation to this service; payments made by FWGB are not taxable in the hands of FWEL. The description of services provided by FWEL under the support services agreement dated 29th April 2009 was for:-

(i) Account Receivable/Payable Management

(ii) Financial Reporting, Banking and Treasury Management

(iii) Human Resources and Payroll Management

(iv) Administrative support

(v) Tax support

(vi) Legal and company secretarial support

9. Department of Revenue took the stand that the payments for FWEL services are in the nature of fees for technical services. Relying on invoices issued to FWEL which describe the category of services as ‘consulting engineering services’, the Department submitted that the invoices raised and description therein are sufficient evidence to show that engineering services were provided that would satisfy the make available clause of the DTAA. The applicant’s counsel Shri Nishant Thakkar submitted that though the invoices mention ‘consulting engineering services’ yet the actual service provided were in the nature of support services to the project office in India in connection with the execution of IOCL project. He was then asked by us to file an affidavit explaining the nature of services provided by FWEL to the India project office. An affidavit was filed mentioning that the applicant entered into an agreement dated 29th April, 2009 with FWEL for providing certain support services in connection with the execution of IOCL project. In the affidavit they mentioned that FWEL engaged its personnel in providing regular administrative, back-office and support services in order to support day-to-day functioning of the PO. In the affidavit such services were explained in detail.

10. The Department, in its response to the affidavit, has mentioned the following points:—

(a) The affidavit described the services in very general terms and did not describe the specific nature of the services rendered by FWEL.

(b) The Applicant enclosed Exhibit-A in which the Applicant listed the type of services purportedly provided by FWEL under the agreement. The list of such services are categorized as (i) Account receivable/payable Management. (ii) Finance Reporting, Banking and Treasury support Management, (iii) Human Resources and pay-roll Management, (iv) Administrative support, (v) Tax support, and (vi) Legal and Company Secretarial support. In the affidavit, the Applicant has nowhere countered the argument of the Department that as evidenced by the invoice included in the paper book, FWEL had in fact rendered consulting engineering services. Department has drawn our attention to the caption on the invoice dated 25.01.2010 at Page No. 114 of the Applicant’s paper book which is “Category of Taxable Services: Consulting Engineering services”. According to the Department this description of the services is for the purpose of Service Tax Law wherein taxable services are categorized under section 65(105) of the Service Tax Act. Consulting engineering service is described in clause (g) of that provision of the Service Tax Act. The said clause (g) describes such service as “any service provided by a consulting engineer in relation to advice, consultancy or technical assistance in any manner in one or more disciplines of engineering”. The Department has submitted that the description in the invoice of the Applicant is in the light of this definition of taxable services in the Service Tax Act and indicates “Category of Taxable Service” as “Consulting engineering services”.

(c) The Department has further pointed out that it is admitted by the applicant that the persons whose names appear in the time-sheets are in fact engineers which further buttresses the Department’s stand that the services rendered are in the nature of engineering services which are technical in nature satisfying the “make available” clause of the India-UK DTAA.

In view of above the Department has submitted that the nature of services rendered by FWEL is technical engineering services satisfying the make available clause of the DTAA and payments made for the same are liable for withholding tax under the DTAA.

11. We have considered the arguments of both sides. We notice that:

(a) The affidavit given by the applicant clarifies that the reference to time spent by engineers in the sample invoice are engineers of FWGB deputed in India PO and not any engineers of FWEL, and hence no engineering services were rendered by FWEL (as alleged by the Revenue). The affidavit further clarifies the reason for reference to time spent by FWGB’s engineers is because the cost incurred by FWEL is allocated to various group companies across the globe who avail of similar services from FWEL.

(b) The mention of ‘engineering service’ on the Invoice is for the purpose of identifying the project to which the support services relate to. Further, names of engineers appear on the annexure to the invoices as the chargeable hours worked by the engineers on the IOCL project form the basis of charging the project for the support services.

(c) The services rendered by third parties and FWEL are administrative support services rendered from abroad and as explained in the affidavit dt. 15th April, 2016 are in the nature of ‘managerial services’. Such services do not make available any technical skill, information or knowledge to the employees of FWGB deputed in the India PO.

12. As regards payments made to third parties other than FWEL, there is no dispute. In respect of FWEL, the applicant has filed an affidavit explaining the nature of services and according to this detailed affidavit services are not in the nature of fees for technical services as they do not satisfy the ‘make available’ clause. The mention of ‘engineering services’ on the invoice has also been explained as above and if this is true the same cannot satisfy ‘make available’ clause as these are not providing services on the basis of which the recipient can be said to acquire skills of enduring benefit nature. Department’s reliance on the fact is also based on presumption that invoices have been prepared for the purpose of services-tax law and the description on the invoice is in the light of the definition of taxable service in Service-tax Act. However, the affidavit filed before us does not say so. We cannot go on presumption of the Department and therefore we rely on the affidavit and rule that services provided by FWEL and other third parties are not in the nature of fees for technical services.

Question No. 6

13. Question No. 6 is in respect of allowing the provisions made in the books of accounts of the applicant on year to year basis starting from asst. yr. 2010-11 (Financial year 2009-10) with respect to its obligation to pay a delay penalty (price reduction) as a result of not meeting the project schedule. As per cl. 8.9 of the agreement between FWGB and IOCL, FWGB would be liable to a price reduction to IOCL for non-satisfaction in terms of contract with respect to the time for completion.

14. The Department of Revenue in its comments had earlier taken a stand that the nature of this expenditure is penal in nature and the same was not allowable to the applicant. However, during the course of hearing the representative of the Department agreed that this was not a penalty and may be allowed subject to the condition that it should be allowed in the year in which such invoices had been raised actually. The applicant filed a statement containing year-wise details of amounts invoiced which show gross invoice amount, amount earned on these invoices and difference attributable to price reduction (delay penalty). The difference attributable to price reduction financial year-wise is as under :

2009-10 Rs. 8,61,27,398

2010-11 Rs. 15,61,45,920

2011-12 Rs. 5,79,43,885

2012-13 Rs. 31,48,00,345

The invoices show that the price reduction has been incurred in terms of cl. 8.9 of the agreement. As such reduction was agreed by IOCL, the same has to be allowed to the applicant in the year in which it actually accrued. The IT authorities will allow the same after verification.

15. In view of above the following rulings are pronounced :

Q.1 The expenses incurred by FWEL and charged to FWGB are allowable under s. 37 of the IT Act in the year in which it was incurred.

Q.5 Payment made to non-resident third party service providers and to FWEL are not in the nature of fees for technical services.

Q.6 The delay penalty (price reduction) will be deductable while computing profits on the basis of actual invoices raised, amount earned on these invoices and difference attributable to price reduction on year to year basis.

[Citation : 389 ITR 509]