ITA 924/2007 Page 1 of 26 * THE HIGH COURT OF DELHI AT NEW DELHI % Judgment delivered on : 30.01.2009 ITA Nos. 924/2007, 921/2007, 922/2007, 932/2007, 933/2007, 1033/2007, 1037/2007, 1044/2007, 1050/2007 & 1092/2007 DIRECTOR OF INCOME TAX, NEW DELHI .....APPELLANT versus SHERATON INTERNATIONAL INC., NEW DELHI ..... RESPONDENT Advocates who appeared in this case: For the Appellant : Mr Sanjeev Sabharwal, Advocate For the Respondent : Mr D Pal, Sr. Advocate with Mr Ananda Sen, & Mr S.K. Aggarwal, Advocates. CORAM :- HON'BLE MR JUSTICE BADAR DURREZ AHMED HON'BLE MR JUSTICE RAJIV SHAKDHER 1. Whether the Reporters of local papers may be allowed to see the judgment ? Yes 2. To be referred to Reporters or not ? Yes 3. Whether the judgment should be reported in the Digest ? Yes RAJIV SHAKDHER, J 1. The captioned appeals have been preferred by the Revenue against a common judgment dated 04.10.2006 of the Income Tax Appellate Tribunal (hereinafter referred to as the „Tribunal‟) passed in ITA Nos. ITA 924/2007 Page 2 of 26 50/Del/2006 to 55/Del/2006 pertaining to assessment years 1995-96 to 2000-01 and ITA Nos. 168/Del/2006 to 171/Del/2006 in respect of assessment years 1995-96, 1996-97, 1999-2000 and 2000-01. The Tribunal by the impugned judgment has disposed of ten appeals, out of which six appeals were filed by the assessee i.e., Sheraton International Inc. while the remaining four appeals were filed by the Revenue. As is evident from the impugned judgment of the Tribunal, both the assessee, as well as, the Revenue had filed four cross appeals each for assessment years 1995-96, 1996-97, 1999-2000 and 2000-01. The remaining two, were the appeals of the assessee, for assessment years 1997-98 and 1998- 99. 2. The Revenue being aggrieved by the impugned judgment has preferred the present appeals under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as the „Act‟). Even though the Revenue, in these appeals, has proposed a total of ten questions, at the time of hearing the learned counsel for the Revenue, Mr Sanjeev Sabharwal confined his submissions to the following proposed questions of law:- (A) Whether the Tribunal was justified in law in holding that the amount received by the assessee from the Indian hotels/clients for the services rendered under the terms of the agreements was in the nature of „business profits‟ not liable to tax in terms of the Article 7 of the Indo-American DTAA? (B) Whether the income of the assessee from the receipts for services rendered to Indian clients/hotels was ITA 924/2007 Page 3 of 26 taxable in India with reference to the charging provisions of sections 4, 5 and 9 of the Act? (C) Whether income received by the assessee was taxable in India as „royalty‟ and/or „fee for included services‟ as per article 12(3)(a) and/o article 1294)(a) and/or article 12(4)(b) of the Double Taxation Avoidance Agreement between India and USA? (D) Whether the amount received by the assessee under the terms of the agreements with the Indian clients/hotels was in the nature of „royalty‟ as contemplated in Explanation-2 to section 9(1)(vi) and (vii) of the Act? (E) Whether the Ld Tribunal has correctly interpreted the relevant clauses and Articles of the agreements to arrive at a conclusion that the intention/purpose of the arrangement was to promote hotel business worldwide and the other services enumerated in the Articles were merely ancillary or auxiliary to the main object. (F) Whether the relevant agreement executed by the assessee was a colourable device only for the purpose of voiding chargeability of tax in India? (I) Whether the amount of contribution received by the assessee from the Indian hotels/clients in respect of “Sheraton Club International”/ “Starwood Preferred Guest” Programme and “Frequent Flyer Programme” would fall within the ambit of article 12 of the DTAA as “free for included services”? The following three questions i.e. (G), (H) & (J) were not pressed before us:- (G) Whether the Ld. ITAT was correct in law in holding that no interest under Section 234B is liable to be levied when the payments received by the assessee are subjected to deduction of tax at source irrespective of the actual deduction? (H) Whether the Tribunal was right in holding that the provisions of Section 209(1)(a) and 209(1)(d) apply even in ITA 924/2007 Page 4 of 26 the case of an assessee who denies its liability to be assessed under the Act and who has not filed a voluntary return, and consequently no interest under Section 234B can be charged in such a case if income is subsequently assessed in its hands? (J) Whether while deleting the addition to the extent of 25% made by the AO in the set aside proceedings for the assessment years 1996-97 and 1997-98, the Tribunal has correctly interpreted the relevant statutory provisions with regard to scope of remand proceedings? 3. We propose to dispose of these appeals by a common judgment as the issues raised in these appeals are inter-related and based on a common set of facts. In order to dispose of these appeals it would be important to note the following undisputed facts. 3.1 The assessee is a company incorporated in USA and a non-resident under the Indian Tax Laws. The assessee is engaged in providing service to hotels in various parts of the world. Towards this end, the assessee, on 27.01.1979 entered into, one such, agreement with ITC Ltd for providing services to three of its hotels, viz., Welcomegroup Mourya Sheraton, New Delhi, Welcomegroup Mugal Sheraton, Agra and Welcomegroup Chola Sheraton, Madras. The scope of services envisaged in the agreement was publicity, advertisement and sales including reservation services. The tenure of the agreement was fixed at 10 years. In consideration of the services the assessee was required to render, ITC Ltd agreed to pay a fee at the rate of 3% of the room sales to the assessee. ITA 924/2007 Page 5 of 26 3.2 Due to a re-organization, the rights and obligations, which enured to ITC Ltd under the agreement dated 27.01.1979 got vested in ITC Hotels ltd. 3.3 On 09.05.1985 the assessee entered into a similar agreement with ITC Hotels Ltd in respect of the hotel Windsor Manor, Bangalore. In so far as the agreement dated 27.01.1979 was concerned the same was renewed on 30.12.1988. 3.4 The assessee also entered into similar agreement with the Aidyar Hotels Ltd, in respect of, its Hotel Park Sheraton, Madras. 4. Over the years, that is, in respect of, the period prior to India and USA entering into a Double Taxation Avoidance Agreement (hereinafter referred to as „DTAA‟) dated 01.04.1991, the fee received by the assessee was taxed as a “business income” on which, tax was deducted at source under Section 195(2) of the Act on an estimated income of 10% of such fee. After the coming into force of the DTAA the assessee reviewed its stand taken before the Revenue and claimed that the fee received by it was not taxable in India as it had no permanent establishment in India. Interestingly, this stand of the assessee was accepted by the Revenue and accordingly, the Revenue gave its no objection on 28.10.1991, whereby, the assessee was permitted remittance of the fee earned in India without deduction of tax at source. ITA 924/2007 Page 6 of 26 4.1 It transpires that in November, 1999 the Revenue woke up to the fact that the fee received by the assessee was taxable and hence, it issued a notice dated 25.11.1999 to ITC Hotels Ltd under Section 163 of the Act treating it as the agent of the assessee. 4.2 The afore-mentioned notice was followed by a notice to the assessee dated 26.11.1999 under Section 142, in respect of, assessment year 1997-98. The said notice was followed by two more notices dated 6.1.2000 and 28.1.2000. The last notice was accompanied by a questionnaire. It is not disputed that since assessee did not comply with the notices the Assessing Officer proceeded to determine the taxable income of the assessee based on best judgment. The Assessing Officer, in doing so, relied upon the agreement executed between the assessee and ITC Hotels Ltd. The Assessing Officer concluded, on an analysis of the terms and conditions contained in the agreement that, what the assessee was making available to the ITC Hotels Ltd was: technical and consultancy services; provision of training to its employees; the use of its trade mark (even though they were free of cost these were services according to him linked to the trade mark); making available technical know-how, documentation and manuals for which while the assessee was not charging a lump sum fee the consideration received by the assessee was relatable to the business concluded by its client-hotels; and the reservation network. ITA 924/2007 Page 7 of 26 4.3 Based on the aforesaid findings the Assessing Officer came to the conclusion that the payments received by the assessee were fee for included services as provided in Article 12(4)(b) of the DTAA. The Assessing Officer also concluded that the assessee had a business connection with India and hence, fee received on account of services rendered by the assessee were deemed to accrue, or arose in India and therefore, the assessee‟s case was covered under Section 9 of the Act. In the alternative he held that the assessee‟s income was taxable as per the provisions of Article 12 of the DTAA. The Assessing Officer estimated the income of the assessee at Rs 30 crores and having held that they were fee for included services made them exigible to tax at the rate of 15%. 5. Aggrieved by the Assessing Officer‟s order the assessee preferred an appeal to the Commissioner of Income Tax (Appeals) [hereinafter referred to as the „CIT(A)‟]. 5.1 Briefly, the CIT(A) vide order dated 22.03.01 classified the services rendered by the assessee into four categories. According to the CIT(A) the fee received by the assessee for the following three categories constituted payment of royalty under Article 12(3)(a):- (i) Use of trademarks, trade name and the stylized “S” service mark. Even though the agreement allowed its use at no cost it being a colourable device the payment received by the assessee had to be attributed to the user of the said intangible asset; ITA 924/2007 Page 8 of 26 (ii) payments towards reservation services; and (iii) lastly, payment towards services for maintenance of high international standards 5.2 In respect of the last category of services which were in the nature of publicity, marketing and promotion activities and had been rendered outside India, according to the CIT(A), they constituted commercial income and in the absence of a permanent establishment in India the said payments could not be brought to tax. 5.3 Based on the aforesaid the CIT(A) concluded that only 75% of the fee received by the assessee was in the nature of royalty and hence, taxable in India under Article 12 of the DTAA, based on a rationale that three(3) out of the four(4) services as categorized by him were taxable in India. The CIT(A), however, disagreed with the estimation of income as quantified by the Assessing Officer as the assessee had claimed that it had received only Rs 7,83,36,687/- on account of the aforesaid services. Accordingly, the CIT(A) directed the Assessing Officer to verify the amount received and after due verification bring to tax 75% of the actual amount received by the assessee. 6. It would be important to note at this juncture that similarly for assessment year 1998-99 the assessee was issued notices dated 6.1.2000, 28.1.2000 and 05.1.2001 under Section 142 of the Act. The last notice ITA 924/2007 Page 9 of 26 was accompanied by a questionnaire. The assessee, however, for assessment year 1998-99 filed a return on 30.01.2001. For this assessment year the Assessing Officer classified the income into four(4) categories as indicated above and out of the four(4) categories three(3) categories were brought to tax on the basis that payments constituted royalty under Article 12(3)(a) and/or as fee for included services as per Article 12(4)(b) of the DTAA. The last category, that is, payments received towards advertisement, publicity and promotion was treated as business income and since, the assessee did not have a permanent establishment in India, they were not chargeable to tax in India. Thus 75% of Rs 7,78,26,499/- was brought to tax at the rate of 15% as per Article 12 of the DTAA. 6.1 The assessee being aggrieved carried the matter in appeal to the CIT(A). The CIT(A) vide order dated 11.11.2001 disposed of the appeal for assessment year 1998-99 based on the reasoning given in its order dated 22.03.2001 in respect of assessment year 1997-98. The aforesaid events prompted the Assessing Officer to re-open the proceeding for assessment years 1995-96, 1996-97, 1999-2000 and 2000-01. Accordingly, a notice under Section 148 was issued on 25.01.2002. The reasons recorded in re-opening the assessment under Section 148 as extracted in the Tribunal‟s orders are as follows:- ITA 924/2007 Page 10 of 26 “Sheraton International Inc. is a company incorporated under the laws of USA. It carries on the business of providing hotel related services worldwide. It entered into agreement with M/s ITC Hotels Ltd. and other „Welcome Group‟ companies in India for providing various service like training, managerial assistance etc. It also provides its logo “S” and the name “Sheraton” to the Hotels it has entered into contract with. For these services the assessee was in receipt of income amounting to crores. The same is clearly taxable as fee for included services in terms of Article 12 of the DTAA between India and the USA as well as Section (1) of the Income Tax Act, 1961. Orders u/s 143(3) passed for A. Yrs. 1997-98 and 1998-99 were passed on the above lines and the same were confirmed by the CIT(A)-XXIX. In view of the above, I have reasons to believe that income of the assessee accruing or arising in India has escaped assessment within the meaning of section 147 of the I.T. Act. Therefore, proceedings u/s 147 of the I.T. Act is hereby initiated. Issue notice u/s 148 of the I.T. Act.” 7. Interestingly the Assessing Officer in its proceedings went even further than what was the view of his predecessor for assessment years 1998-99, as well as, that of the CIT(A) for assessment years 1997-98 and 1998-99 by holding that the entire amount received by the assessee from the Indian hotels including contribution towards Sheraton Club International (SCI) and Frequent Flier Programme (FFP) was taxable in India as royalty and/or fee for included services. The assessments for the four assessment years i.e. assessment year 1995-96, 1996-97, 1999-2000 and 2000-01, were brought to tax at the rate of 15% as per Article 12 of the DTAA. Assessments were completed under Section 148 read with Section 143(3). In the meanwhile the appeals filed by the assessee, in respect of, CIT(A) orders dated 22.03.2001 and 11.11.2001 for ITA 924/2007 Page 11 of 26 assessment years 1997-98 and 1998-99 respectively came up for hearing before the Tribunal. The Tribunal by a common order dated 23.10.2002 set aside the order of the CIT(A) for assessment years 1997-98 and 1998- 99 and remanded the matter to the file of the Assessing Officer for a fresh adjudication. The main ground for setting aside the order was that the Tribunal found fault with the approach adopted by the authorities below. The Tribunal was of the view that the taxability of income of a non-resident had to be first determined in the light of the provisions of Sections 4, 5 and 9 of the Act. According to the Tribunal the provisions of DTAA would come into play only if the assessee, which is admittedly a non-resident, was required to pay tax, both under the Indian Income Tax Act, as well as, that of U.S.A. In its view the approach adopted by the authorities was thus, faulty because they had proceeded to examine the matter from the point of view of the provisions of the DTAA, whereas the approach ought to have been the other way round. 8. On remand the Assessing Officer held that the entire amount received by the assessee constituted royalty and/or fee for included services and was thus, taxable with reference to the charging provisions of section 4, 5 and 9 of the Act and since, the assessee did not have a permanent establishment in India the same was taxable in India as royalty and/or fee for included service as per article 12(3) and/or article 12(4)(b) of the DTAA. The Assessing Officer thus, brought to tax in ITA 924/2007 Page 12 of 26 India the entire amount of Rs 7,83,36,687/- and Rs 7,78,26,449/- received by the assessee during the previous year relevant to assessment year 1997-98 and 1998-99 respectively at the rate of 15%. The said order was passed by the Assessing Officer under Section 143(3) read with Section 254 on 28.11.2003. 8.1 Against the order of the Assessing Officer dated 28.11.2003, in respect of, assessment years 1997-98 and 1998-99 the assessee, being aggrieved, preferred an appeal to the CIT(A). 8.2 In the interregnum appeals against the Assessing Officer‟s orders under Section 148 read with Section 143(3) for assessment years 1995- 96, 1996-97, 1999-2000 and 2000-01, had also reached the CIT(A). The CIT(A) disposed of the said six appeals by a common order dated 31.10.2005. 8.3 Briefly, the CIT(A) by its order held that the entire payment received by the assessee for services rendered in terms of the various agreements entered into by it with hotels in India were in the nature of „royalty‟ under Section 9(1)(vi) of the Act, as also, under Article 12(3)(a) of the DTAA. The CIT(A) thus, sustained the order of the Assessing Officer bringing to tax the entire receipts at the rate of 15% for the six years considered by him. In so far as the payments which had been received by the assessee from its customers, that is, the hotels in India, in respect of, SCI and FFP which were held to be taxable by the ITA 924/2007 Page 13 of 26 Assessing Officer in his assessment order under Section 148 read with Section 143(3) of the Act for assessment years 1995-96, 1996-97, 1999- 2000 and 2000-01, as these were not contributions which were received by the assessee in pursuance of the agreements entered into with Indian hotels; he noted that these contributions received from the hotels, which were given back to their guests in the form of rewards. The CIT(A) further observed that the contributions received towards SCI were for facilitating promotion of business of hotels worldwide and hence, could not be termed as fee for technical services or royalty. He held the said contributions would constitute commercial income of the assessee and since, the assessee did not have a permanent establishment in India it could not be brought to tax in India. The CIT(A) thus deleted the Assessing Officer‟s additions on account of contributions to SCI and FFP for assessment years 1995-96, 1996-97, 1999-2000 and 2000-01. 8.4 Being aggrieved by the order of the CIT(A) dated 31.10.2005 in respect of the remaining issues, the assessee preferred appeals to the Tribunal for the following six years i.e. assessment years 1995-96 to 2000-01, while the Revenue preferred the appeals to the Tribunal in respect of the relief granted on SCI/FFP contributions in respect of assessment years 1995-96, 1996-97, 1999-2000 and 2000-01. Consequently, the cross-appeals, were filed as noted hereinabove; four each by the assessee and the Revenue, apart from two appeals by the ITA 924/2007 Page 14 of 26 assessee, in respect of, the assessment year 1997-98 and 1998-99. As noted in the beginning the Tribunal by the impugned judgment disposed of the eight cross-appeals and two appeals filed by the assessee. SUBMISSIONS OF THE COUNSEL 9. Before us the learned counsel for the Revenue Mr Sanjeev Sabharwal, Advocate, submitted that the entire payments received by the assessee were in the nature of royalty and/or fee for included services. For this purpose he referred to various clauses of the agreement to demonstrate that the assessee had a vast knowledge and experience in the field of hotel business. This experience, according to the learned counsel for the Revenue, which the assessee acquired in the hospitality industry, is in the nature of information pertaining to an industrial and commercial and scientific experience and hence, payments received by the assessee are covered under the provisions of Section 9 of the Act, as well as, Article 12 of the DTAA. He further contended that the services rendered in connection with publicity, marketing and promotion being in the nature of ancillary and subsidiary services were covered within the meaning of the provisions of Article 12(4) of the DTAA. It was the submission of the learned counsel for the Revenue that the assessee was imparting technical knowledge, whereby the computers of client-hotels were synchronized with that of the assessee through satellite link which enabled their client-hotels access to the reservations systems of the ITA 924/2007 Page 15 of 26 assessee. This according to the learned counsel was nothing but a case of assessee imparting technical knowledge. It was further contended by the learned counsel that, even though there was a composite payment envisaged under the agreement it was really a colourable device in order to obfuscate the payments made towards use of trademark, supply of information concerning industrial, commercial and scientific experience, reservation of rooms etc. The learned counsel for the Revenue submitted, that the fact that, the agreement stated that the assessee‟s clients were allowed to use trade name and trademark free of cost was really of no consequences, in the event one were to hold that it was a colourable device adopted by the assessee to avoid payment of tax in India. As regards contributions received with respect to SCI and FFP by the assessee, it was contended that these were in the nature of fee for included services as mentioned in Article 12(4)(a) which includes all services which are ancillary and subsidiary to the enjoyment of right of property or information for which payment as described in Article 12(3)(a) is made. It was the contention of the learned counsel for the Revenue, which was really a reiteration of stand before the Tribunal, that the said services, would enhance the enjoyment of property or right to property for which payments were made as described in Article 12(3)(a) and would enable generation of revenue and hence, were covered under Article 12(4)(a). ITA 924/2007 Page 16 of 26 10. In reply Mr Debi Pal, the learned Senior counsel appearing for the assessee submitted that the services for which income had been received were rendered by the assessee entirely outside India and this being so, the income which has been received by the assessee had neither accrued nor arisen to the assessee in India. It was submitted, since the assessee did not have any business connection in India, the income received by it could not be brought to tax by resorting to the deeming provision of Section 9(1)(i) of the Act. It was further submitted that the assessee had rendered its service in the nature of advertisement, publicity and sales to its clients, that is, the hotels in India through systems and facilities located outside India. It was the contention of the learned Senior counsel for the assessee that the income of the assessee was in the real sense a business income and, in view of the fact that the assessee did not have a permanent establishment in India, the said income could not be brought to tax in India by virtue of Article 7 of the DTAA. It was strenuously urged by the learned Senior counsel for the assessee, that the primary service rendered by the assessee under the agreement was marketing, publicity and reservation services and it was only to facilitate this primary objective that the assessee permitted the use of trade name or trademark or the stylized “S” to its clients i.e., Indian hotels only to ensure