A Classic example of Perversity

Dictionary meaning

An order that suffers from perversity is bound to fail in the ultimate test before Supreme Court. This is a settled principle in law. The Gauhati High Court in CIT v J N Sarna and Others (1999) 235ITR170 quoted the following definitions of the words ‘Perverse’ and ‘perverse finding’ from Stroud’s Judicial Dictionary:

Perverse. A perverse verdict may probably be defined as one that is not only against the weight of evidence but is altogether against the evidence.

Perverse finding—A finding cannot be said to be perverse if it is against the weight of evidence. It is perverse if it is altogether against evidence.

Colin’s dictionary defines the term  ‘verdict’ meaning ‘truly said’ or the decision of a jury based on its interpretation of the factual evidence led and the law as stated to it by the judge. The verdict, therefore, turns perverse when the same is against evidence entirely.

Supreme Court decision in Samsung Case

Pointing out more than one perversity in the findings of fact by the Assessing Officer, the Dispute Resolution panel and the Tribunal the Supreme Court in DIT (International Tax) and another v. Samsung Heavy Industries Co. Ltd. (2020) 426ITR1 held that no permanent establishment has been set up by the non-resident within the meaning of Article 5(1) of the Double Taxation Avoidance Agreement.

Assessee’s case

ONGC awarded a “turnkey” contract to a consortium comprising of the assessee and L & T for carrying out the “work”, inter alia, of surveys, design, engineering, procurement, fabrication, installation and modification at existing facilities, and start-up and commissioning of entire facilities covered under the “Vasai East Development Project”. The assessee had set up a project office in Mumbai to act as “a communication channel” between the assessee and ONGC in respect of the said project. The assessee filed a NIL return of income showing nil profit, as a loss of INR 23.5 lakhs had allegedly been incurred in relation to the activities carried out by it in India.

AO and DRP findings

The AO concluded that the project in question is a single indivisible “turnkey” project, whereby ONGC was to take over a project that is completed only in India. Resultantly, profits arising from the successful commissioning of the project would also arise only in India. In his draft order, he thus attributed 25 percent. of the revenues earned outside India as being the income attributable to such a project office in India without establishing that such income was attributable to the permanent establishment of the enterprise situate in India. The DRP confirmed the stand taken by the AO.

Tribunal findings

The Tribunal went into the establishment of the project office at Mumbai in much more detail than had been gone into either in the draft order or the Dispute Resolution Panel’s decision. The ITAT looked at documents such as RBI permission, the project office opening resolution and other correspondence in regard to setting up of project office as well as the financial statements. Upon their appreciation, the ITAT held that:-

1. the words ‘that the company hereby open one project office in Mumbai, India for coordination and execution of Vasai East Development Project for Oil and Natural Gas Corporation (“ONGC”), India’ in the resolution makes it amply clear that the project office was opened for co-ordination and execution of the impugned project;
2. the scope of Mumbai project office has neither been restricted by the assessee company itself nor it has also not been restricted by the Reserve Bank of India in any terms;
3. the project office at Mumbai was not a mere liaison office, but was vitally connected with the core business of the assessee;
4. the onus is on assessee to prove that activities of its permanent establishment are in the nature of preparatory or auxiliary in nature;
5. the argument that the accounts of the assessee does not contain any expenditure relating to execution of the contract is not acceptable as the maintenance of account is in the hands of assessee and the mere mode of maintaining the accounts alone cannot determine the character of permanent establishment as the role of permanent establishment only will be relevant to determine what kind of activities it has carried on;
6. there was a lack of material to ascertain as to what extent the activities of the business were carried on by the assessee through the Mumbai project office, and therefore it was considered just and proper to set aside the attribution of 25 per cent. of gross revenue earned outside India—which was attributed as income earned from the Mumbai project office—the matter being sent back to the Assessing Officer to ascertain the profits attributable to the Mumbai project office after examining the necessary facts.

High Court view

The High Court of Uttarakhand however revered the order of the Tribunal on the sole ground that there was no evidence on record suggesting that 25 percent. of the gross revenue of the assessee outside India is attributable to the business carried out by the project office of the assessee. In other words, there was no correlation between activities carried out in India and amounts of revenue attributable thereto.

Supreme Court decides on perversity

The Supreme Court held that the assessee’s board resolution would show that the project office was established to coordinate and execute “delivery documents in connection with the construction of offshore platform modification of existing facilities for ONGC”. The finding, therefore, that the Mumbai office was not a mere liaison office, but was involved in the core activity of execution of the project itself was clearly perverse.

This perversity got noticed by the Supreme Court upon reading the following board resolution extracts:

“Resolved :

1. That the company hereby open one project office in Mumbai, India for co-ordination and execution of Vasai East Development Project for Oil and Natural Gas Corporation Limited (‘ONGC’), India.
2. That the company hereby does make and constitute Mr. Sang soon Park Yard, General Manager of the company, as the company’s true and lawful representative with full power and authority for the purpose of establishing a project office and co-ordinating and executing delivery of documents in connection with construction of off shore platform modification of existing facilities for ONGC above.”

It found that the Income-tax Appellate Tribunal relied upon only the first paragraph of the Board Resolution, and then jumped to the conclusion that the Mumbai office was for co-ordination and execution of the project itself. The finding, therefore, that the Mumbai office was not a mere liaison office, but was involved in the core activity of execution of the project itself is held clearly perverse by the Supreme Court.

Equally, according to the Supreme Court, the Tribunal rejected the argument that the accounts of the Mumbai office showed that no expenditure relating to the execution of the contract was incurred, stating that the mere mode of maintaining accounts alone could not determine the character of permanent establishment. This was another perverse finding. The finding that the onus was on the assessee and not on the authorities to first show that the project office at Mumbai was a permanent establishment was again in the teeth of settled law. The Tribunal ignored the argument that there were only two persons working in the Mumbai office, neither of whom was qualified to perform any core activity of the assessee. This being the case, it was clear, therefore, that no permanent establishment had been set up within the meaning of article 5(1) of the DTAA, as the Mumbai project office could not be said to be a fixed place of business through which the core business of the assessee was wholly or partly carried on. Also, the Mumbai project office, on the facts, would fall within article 5(4)(e) of the DTAA, inasmuch as the office was solely an auxiliary office, meant to act as a liaison office between the assessee and ONGC.”

In this case therefore the AO/ DRP and the Tribunal converted the liaison office into project office driven permanent establishment and taxed 25% of the gross revenue of the assessee outside India as attributable profit to the project office without appreciating the fact that it was merely a communication channel between the assessee and the ONGC.

On the subject of onus in determining the PE in India the Supreme Court held that it falls within their teeth by their order in DIT (Asst.) v. E-Funds IT Solution Inc. [2017] 399 ITR 34 whereby the burden of proving the fact that a foreign assessee has a permanent establishment in India and must, therefore, suffer tax from the business generated from such permanent establishment is initially on the Department.

The order of the Tribunal and the authorities below suffered from more than one perversity as in failing to appreciate the evidence before them viz, the board resolution, the audited financial statements and books of account of the project office along with the further fact the project office in Mumbai consisted of only two employees, neither of whom had any technical qualification whatsoever as well as on their part in their failure to discharge the initial onus.

At the same time the Apex Court while dealing with the subject of Permanent Establishment held that when it comes to “fixed place” permanent establishments under double taxation avoidance treaties, the condition precedent for applicability of article 5(1) of the double taxation treaty and the ascertainment of a “permanent establishment” is that it should be an establishment “through which the business of an enterprise” is wholly or partly carried on. Further, the profits of the foreign enterprise are taxable only where the said enterprise carries on its core business through a permanent establishment. What is equally clear is that the maintenance of a fixed place of business which is of a preparatory or auxiliary character in the trade or business of the enterprise would not be considered to be a permanent establishment under article 5. Also, it is only so much of the profits of the enterprise that may be taxed in the other State as is attributable to that permanent establishment and not the other way round as has been in this case in holding 25 per cent. of the revenues earned outside India as being the income attributable to project office in India. Thus in this case there was no enough proper scrutiny of the operations of the project office nor did the evidence produced by the assessee in that regard is weighted correctly.

Ca Gopal Nathani