Clearing the Air: Airtel's SC Decision provides clarity on test of Agency
APRIL 18, 2024
By S Rahul Jain, Partner - M2K, Chartered Accountants
ONE of the litigious issues relating to the applicability of Section 194H of the Income Tax Act was decided recently by the Hon'ble SC in the case of M/s Bharti Airtel (referred to as Appellant) - [2024-TIOL-38-SC-IT]. Though the decision has been rendered on the specific facts of the case, the rationale of the decision would apply to various facets of law as the tests of agency and when a person acts on behalf of (GST definition of intermediary) has been dealt with in this case.
The Appellant was operating under a license granted by the Department of Telecommunications (DoT) in India to provide both post-paid and prepaid connections to users. The facts in the case revolved around provision of services under the prepaid business model.
The Appellant entered into franchise or distribution agreements with various parties, through which the Appellant distributed prepaid start-up kits and recharge vouchers. These agreements outlined the roles and responsibilities of both the Appellants and the franchisees/distributors.
The main contention raised by on behalf of the Appellant was that the discounts provided to franchisees/distributors should not be considered "commission or brokerage" under Section 194-H. It was argued that the relationship between the Appellants and the franchisees/distributors is that of independent contractors, not principal and agent.
The crucial fact pattern which emerged from the agreement was that the franchisees/ distributors bore responsibilities such as marketing prepaid services, appointing retailers, complying with rules and regulations, indemnifying the company, maintaining suitable establishments, and adhering to company policies. They were also tasked with hiring employees and managing payments and expenses.
Additionally, franchisees/distributors were required to maintain sufficient stock of prepaid products, ensuring their safety and storage while insuring them against loss or damage. In the event of agreement termination, franchisees/distributors had the obligation to return materials, and the company bears no liability for any losses incurred.
Franchisees/distributors were further obligated to meet subscription targets, employ trained staff, collect necessary forms from customers for verification, and adhere to pricing and payment terms set by the company, while assuming tax liabilities related to the agreement.
Regarding the use of trademarks, franchisees/distributors were permitted to use company logos within specified guidelines but were prohibited from incorporating trademarks into their business names. The franchisees could display logos at their outlets.
In terms of the financial model, franchisees/distributors pay upfront for welcome kits and determine their profits by selling products at their discretion. While SIM cards remain the property of the company, they were distributed to end-users by franchisees/distributors as per licensing requirements.
Ultimately, franchisees/distributors generated income by selling prepaid products, earning profits based on the difference between the sale price and acquisition cost.
In this factual background, the court distinguished between the roles of agents and independent contractors, emphasizing that franchisees/ distributors operate independently and were not subject to direct control by the Appellants.
In this fact pattern, the Hon'ble Court held that Section 194-H of the Income Tax Act is not applicable to the transactions between the Appellants and the franchisees/distributors in this case.
The court rejected the Revenue's argument that the Appellants ought to periodically gather information on transactions between franchisees/distributors and third parties for tax deduction purposes, deeming it impractical and unfair to the Appellants.
The court further distinguished the applicability of the Singapore Airlines case as that involved a different contractual arrangement between airlines and travel agents, governed by specific rules and agreements set up by the International Air Transport Association (IATA).
Unlike in the Singapore Airlines case, the relationship between the Appellants and the franchisees/distributors did not involve the use of a central mechanism (like the BSP in the airline industry) for computing and facilitating payments.
Important principles laid out by SC for determination of agency
The Court laid out various principles to outline when a party would be construed to be an agent of the other. The same are discussed briefly.
Legal Relationship: The expression 'acting on behalf of another person' indicates the existence of a principal-agent relationship, defined by Section 182 of the Indian Contract Act, 1872. This relationship entails the principal employing the agent to act or represent them in dealings with third parties.
Agency Definition: An agent is someone employed by a principal to perform acts on their behalf or to represent them in dealings with third parties. The agent acts for the principal, not themselves, in transactions, with contracts being between the principal and third party.
Key Factors in Agency Relationship:
The agent has legal power to alter the principal's legal relationship with third parties.
The principal exercises a degree of control over the agent's activities.
There exists a fiduciary relationship, where the agent acts subject to the principal's control.
The agent is accountable to the principal and entitled to remuneration.
Distinction from Other Relationships: The distinction between agency and other relationships like employer-employee or principal-principal is that agency involves the agent acting on behalf of the principal, not as the owner of the goods or services. Similarly, the agent differs from an independent contractor in the level of control exerted over them by the principal. An independent contractor has more discretion in performing tasks and typically intends to make profits for themselves, rather than solely representing the principal.
Commercial Complexity: Modern contracts can create complex relationships that may not strictly fit into traditional categories like principal - agent. The true nature of the relationship must be examined based on the parties' conduct and the legal implications.
Relevance of the decision
The decision would have implications for all transactions involving the applicability of Section 194H. Apart from the TDS implications for agency relationships, the relevance of agency is also triggered in other tax laws. Under GST law, transactions between agent and principal are taxable even if they are carried out without a consideration. Similarly, under the definition of intermediary, which is one of the most litigious areas of law, there is pre-requirement of a person to have the character of an ‘agent/broker providing service on behalf of another'.
[The views expressed are strictly personal.]
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